Correlation simply refers to a relationship between two entities. For example, there is a correlation between how much you earn and how much tax you pay. In financial terms, it generally describes the extent to which the prices of two different assets tend to move up and down together.
If one moves and the other does too, in the same direction, they are said to have positive correlation. If they move in perfect unison, they are perfectly positively correlated, and have a "correlation coefficient" of +1.
Assets are perfectly negatively correlated when, for every point one goes up, the other goes down by an identical percentage. The correlation coefficient is then -1. A correlation coefficient of 0 means that there is no relationship at all.
Subscribe to MoneyWeek
Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE
Sign up to Money Morning
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
Correlation generally occurs when events in one area have an obvious influence on another. For example, a change in consumer confidence has a relationship with high-street spending and so will be correlated to the share prices of retailing firms.
In the same way, if an Asian economy is perceived as being dependent on the US economy, any movement in the US market will generally cause a corresponding movement in the Asian market.
-
M&S shares shift from frumpy to fabulous as pre-tax profits are up by 56%M&S is performing strongly and has announced it will pay a dividend for the first time since the pandemic.
-
The rise and fall of Sam Bankman-Fried – the “boy wonder of crypto”
Why the fate of Sam Bankman-Fried reminds us to be wary of digital tokens and unregulated financial intermediaries.
