Friday, December 18, 2015

READING THE CORRELATION TABLE

With this knowledge of correlation, let's look at the following tables, each showing correlations between the major currency pairs during the month of February 2010.
The upper table above shows that over the month of February (one month) EUR/USD and GBP/USD had a very strong positive correlation of 0.95. This implies that when the EUR/USD rallies, the GBP/USD has also rallied 95% of the time. Over the past 6 months though, the correlation was weaker (0.66) but in the long run (1 year) the two currency pairs still have a strong correlation.


By contrast, the EUR/USD and USD/CHF had a near-perfect negative correlation of -1.00. This implies that 100% of the time, when the EUR/USD rallied, USD/CHF sold off. This relationship even holds true over longer periods as the correlation figures remain relatively stable.

Yet correlations do not always remain stable. Take USD/CAD and USD/CHF, for example. With a coefficient of 0.95, they had a strong positive correlation over the past year, but the relationship deteriorated significantly in February 2010 for a number of reasons, including the rally in oil prices and the hawkishness of the Bank of Canada. 

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