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Market Correlations Cheat Sheet
Understanding Correlation: Correlation coefficient ranges from -1 to +1
- +1.0 (Perfect positive correlation): Assets move in the same direction at the same time
- -1.0 (Perfect negative correlation): Assets move in opposite directions at the same time
- 0 (No correlation): Assets move independently of each other
Currency Pair Correlations
| Currency Pair | Strong Positive Correlation | Strong Negative Correlation | Trading Implications |
|---|---|---|---|
| EUR/USD | GBP/USD, AUD/USD, NZD/USD | USD/CHF, USD/JPY | Avoid trading correlated pairs in the same direction to reduce risk |
| GBP/USD | EUR/USD, AUD/USD | USD/CHF | Monitor European economic news for impact across correlated pairs |
| USD/JPY | USD/CAD, USD/CHF | EUR/USD, GBP/USD, AUD/USD | Strongly influenced by risk sentiment and interest rate differentials |
| AUD/USD | NZD/USD, EUR/USD, gold prices | USD/CAD, USD/JPY | Commodity prices often drive AUD movements |
| USD/CAD | USD/JPY, oil prices (inversely) | AUD/USD, NZD/USD | Monitor oil price movements as they impact CAD |
Forex and Commodity Correlations
Gold (XAU/USD)
- Positive correlation: AUD/USD, EUR/USD
- Negative correlation: USD strength (USD index)
- Often rises during economic uncertainty and inflation concerns
- Tends to move inversely to real interest rates
Oil (WTI/Brent)
- Positive correlation: CAD strength, NOK strength
- Negative correlation: USD/CAD, USD/NOK
- Oil price increases typically strengthen CAD
- Major importer currencies (JPY) often weaken with oil price rises
Silver (XAG/USD)
- Positive correlation: Gold, inflation expectations
- Negative correlation: USD strength
- Higher volatility than gold (referred to as "gold on steroids")
- Both industrial and investment demand affect price
Cross-Asset Correlations
| Asset Class | Correlations During Normal Market | Correlations During Risk-Off Market |
|---|---|---|
| Stocks (SPX, NASDAQ) |
Positive: AUD/USD, NZD/USD, commodity currencies Negative: USD/JPY, USD/CHF (safe havens) |
Market selloffs strengthen JPY, CHF, USD Risk currencies (AUD, NZD) typically weaken |
| US Treasuries (Yields) |
Positive: USD strength, particularly vs JPY Negative: Gold prices |
Lower yields typically strengthen JPY Can support gold prices as alternate store of value |
| VIX (Volatility Index) |
Positive: JPY, CHF, USD (as safe havens) Negative: AUD, NZD, emerging market currencies |
Spikes in VIX typically signal "risk-off" environments Safe-haven currencies strengthen significantly |
Interest Rate Differentials and Currency Correlations
- Currencies of countries with higher interest rates tend to appreciate against those with lower rates
- Carry trades involve borrowing in low-interest currencies to invest in high-interest currencies
- Rate differential changes often precede major currency pair movements
- Central bank policy divergence creates strong directional trends in related currency pairs
Using Correlations in Trading
Risk Management
- Avoid taking multiple positions in highly correlated pairs
- Spread risk by trading uncorrelated or negatively correlated assets
- Be aware of "hidden" correlations, especially during market stress
- Use correlation to confirm trends across related markets
Trading Strategies
- Arbitrage opportunities when correlated pairs diverge temporarily
- Hedge positions using negatively correlated assets
- Use stronger trends in one market to confirm potential moves in correlated assets
- Anticipate moves in one market based on movements in correlated markets
Correlation Shifts
- Correlations can change during market regimes (e.g., risk-on vs risk-off)
- Monitor correlation coefficients regularly for changes
- Economic events can temporarily break established correlations
- Long-term correlations are more reliable than short-term