Correlation

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The very first definition that you come across when searching for the word “correlation” is “mutual relationship, correlation”, and “Correlation or correlation dependence is a statistical relationship of two or more random variables.

 At the same time, changes in the values of one or more of these quantities are accompanied by a systematic change in the values of another or other quantities.” (Wikipedia). As a rule, definitions contain concepts that hide a much deeper meaning. In this case, we are talking about correlation.

In fact, the essence of this phenomenon can be described as follows: everything that happens to a separate element of something whole is somehow reflected on the other components. In this sense, financial markets are no exception!

To use this phenomenon to your advantage, it is enough to remember that the main market participants who, by their behavior and decisions, influence the change in the price of an asset in the Forex market are the central banks of countries. It is they who determine monetary policy, taking into account the global political situation, existing and future agreements between countries and multinational corporations.

Central banks regularly reflect their activities in the form of reports on various economic indicators and systematically publish them. This data can always be found in the economic calendar.

So, we have identified the factor underlying this phenomenon. Now let’s see how this manifests itself. Since currency pairs are used as trading instruments, let’s take two of them for example: EURUSD and USDCHF:

The figure clearly shows that the graphs are almost mirror-like, opposite in direction. This is primarily due to the fact that the US dollar is in different positions in these pairs: in USDCHF, the dollar acts as a quoted currency (in first place), and in EURUSD – as a quoted currency (in second place).

Simply put, if the EUR USD rate is “bullish”, then the USDCHF rate will necessarily be “bearish”.

But this is not all you need to know about choosing correlating tools. It is important to understand here that EUR (euro) and CHF (Swiss franc) are closely connected geopolitically – the territories in which the economies of these countries operate are geographically close, which means that various sectors of the economy are closely connected: mutual penetration of the able-bodied population, which affects the unemployment rate; mutual penetration of the banking sector (unless the deaf have not heard about the reliability of Swiss banks), mutual penetration of the manufacturing sector (the closer suppliers are to manufacturers, the cheaper the production, which means lower the price of the final product, which makes it more attractive for domestic and foreign markets), etc.

Thus, by detailing individual aspects of the economy that mutually affect each other, it is possible to clarify the degree of their mutual influence, and hence the correlation. Comparing the graphs of various instruments, the correlation of which we want to emphasize, we can observe both a complete similarity in direction (take it for +100%) and the complete opposite (mirror image, take it for -100%). Remember that, just as there are no 100% identical things in nature, so here, in the foreign exchange market, you will not find complete similarity / divergence of charts.

Looking at various instruments, one can clearly see that only in certain periods they absolutely repeat or mirror each other, reacting to important economic and political events:

EURUSD vs EURGBP

This example shows when the quoted EUR is the “driver” of the movement, and when the influence of the quoted currency prevails – GBP or USD. Here is another example.

Here, the British pound acts as a quote and as a quote currency, which implies mirroring, however, as you have already noticed, this happens only when the British pound acts as a driver.

To make it easier for you to navigate the question “what is similar to what” – a correlation table is given, where negative values indicate “mirroring”, and positive ones, on the contrary, indicate similarity:

In conclusion, we note that there are many tools for predicting market events, the effectiveness of which is 100% correlated with your knowledge and skills of their application! And this means that you can and should constantly learn the skill of trading!

A passing trend and high profits!

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