Correlation

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.

Try 6 free issues of MoneyWeek today

Get unparalleled financial insight, analysis and expert opinion you can profit from.

Start your trial

Sign up for MoneyWeek’s free twice-daily newsletter.

Join more than 165,000 subscribers and keep yourself informed with latest financial news, insights and expert analysis to help you understand what really matters when it comes to your finances.

Join more than 165,000 subscribers and keep yourself informed with latest financial news, insights and expert analysis to help you understand what really matters when it comes to your finances.

Sign up

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.