Direct and inverse correlation of currency pairs

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Direct and inverse correlation of currency pairs

 

Direct and inverse correlation of currency pairs is an important element of Forex trading. It is built within the framework of interconnection of statistical indicators of different trading instruments, obtained on the basis of influence of fundamental market factors. Correspondingly, the direct correlation implies the movement of two or more currency pairs in one direction, the opposite – the multidirectional movement of currency pairs. There is also a sliding correlation, when one currency pair repeats the movement of the other with some delay, following as if in the course of its movement.

How can I use correlations in Forex trading?

In fact, it is the correlations of currency pairs that can be used as a basis for an effective trading strategy based on the initial prediction of the dynamics of rate changes. The accuracy of the analysis will be quite high. And the trading results are profitable.

To search for correlation between exchange rate indices, the most common methods are automatic calculation methods (with the help of special utility tools) or manual drawing up of charts in Excel spreadsheet editor, where with the help of “correlate” function it is possible to compare data on two selected sets.

It should be noted that the correlation of currency pairs does not remain unchanged. There are certain new trends. Thus, the EUR/USD pair correlates in the forward direction with the pairs GBP/USD, NZD/USD, AUD/USD. And its inverse correlation is observed with the following pairs: USD/CAD, USD/JPY, USD/CHF.

If we consider examples of “moving”, catching up” correlations, we can trace this relationship between gold prices and the currency pair GPB / USD, which is always either a little ahead of the growth of precious metal quotations, or slightly behind it.

Correlation coefficients

Correlation can have different coefficients, from which it is possible to get an idea of the impact of one currency pair on another:

– 1.0 – inverse correlation in the ideal time ratio (100% mirror movement);

– 0.8 – inverse correlation with extremely strong influence;

– 0.6 – inverse correlation with strong influence

– 0.4 – inverse correlation with moderate influence

– 0.2 – inverse correlation with minimal influence

0 – this indicator means the absence of correlation interaction

0.2 – direct correlation with minimal influence

0.4 – direct correlation with insignificant influence

0.6 – direct correlation with moderate influence

0.8 – direct correlation with significant influence

1.0 – direct correlation in the ideal time ratio (100% coinciding parallel courses of motion).

When calculating correlation values for currency pairs, it is important to consider different time intervals. In some cases, for example, for EUR/GBP and EUR/CHF pairs, the correlation will be inverse for a short week period and straightforward for a month.

Changes in the correlation indicators for currency pairs may also be due to the following factors:

– Mismatches between the expectations of analysts and the data of the released statistics;

– the emergence of strong unpredictable factors of economic influence (crises, etc.);

– the emergence of strong unpredictable factors of political influence (wars, catastrophes, etc.)

In all three cases, it is better to calculate the correlations additionally, based on the short-term principles of forecasting the dynamics of changes in exchange rate values.