What is Forex Correlation

Learning about Forex correlations is crucial. Let’s learn what is forex correlations, their coefficient, and how to trade on forex pair correlations.
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February 21, 2021

What is Forex Correlation and How To Trade Using It?

Learning about Forex correlations is crucial for trade. It is also one of the most exciting things we could talk about in the currency markets. Just as there are connections across different asset classes, there are also correlations that exist between currency or forex pairs. Understanding forex correlations is essential if you aspire to be a successful trader in the foreign exchange market. By learning about forex correlation and how they move, you’ll be able to have full command over the exposure of your portfolio. It is also essential for traders as it can determine the size of the risk.

In this post, you’re going to learn what is forex correlations, what is a correlation coefficient and how to trade on forex pair correlations. Let’s get straight into it!

Forex Correlation

What Does Correlation in Forex Trading Mean?

A forex correlation is a relationship within two different currency pairs or units. It is also used to forecast that if the currency pair prices are going to move in sequence or not. There are two types of currency correlations such as a positive correlation and a negative/inverse correlation. When two currency pairs move in a similar direction, they have a positive correlation. Whereas if two pairs move in a different or dissimilar direction they have a negative correlation.

Forex Correlation is an important concept that every trader should understand deeply as it can make or break your trading profits on foreign exchange markets. Learning about this will allow you to earn bigger profits and safeguard your positions in the forex market.

A Currency or Forex Correlations’ strength relies on the volume of recent trading for the two currency pairs within the forex market and the time of the day. You can also use currencies that are inversely correlated for hedging.

 

What is A Correlation Coefficient?

 

The correlation coefficient is used to measure the correlation’s strength in between two different currency pairs or variables. The values of the correlation coefficient vary from 1 to -1. The value 1 indicates that there’s a positive correlation whereas a -1 value indicates a negative correlation. Another value of the coefficient is 0, which indicates that there isn’t any correlation within the movements of the price of different pairs of currency.

 

In the forex market, the most used measure of currency correlations is Pearson correlation. This is used to measure the direction and strength of direct connection within the two variables. The values of the correlation coefficient under +0.8 or bigger than -0.8 are known to be unimportant.

 

Most of the forex traders use spreadsheet-based computer software such as Microsoft excel to measure the Pearson correlation coefficient. This is because the other measuring method is really hard.

How To Trade On Forex Using Correlation?

Forex pair Correlation trading can be used to find out if a currency pair has a negative or a positive correlation. Simply put, if the correlation was found positive, you can open two of the similar positions. Whereas, if the correlation was inverse you could open the opposite position.

 It can also be used to diversify the two pairs to safeguard the risk of a pair moving in another direction. You can also use point values for your benefit.

You can use the correlation for many things as mentioned. Here’s a short but solid step by step guide to starting forex correlation pairs trading:

  1. Register and create a live account.
  2. Investigate and explore the foreign exchange market. Learn about the factors that affect a currency pair like inflation etc.
  3. Select a currency correlation tactic or plan. You can just simply write a few lines explaining the strategy along with a checklist for every trade.
  4. Start trading. Select if you need to sell or buy. Decide what will be the exit and entry time. 

Conclusion:

Correlations can be negative or positive. It is a significant yet neglected topic by traders. Learning and understanding forex correlations is a must if you want to be a winner in the forex trading game. It will enable you to boost up the performance of your trading and minimize the risks. You’ll be able to trade your portfolio more accurately. Correlations allow you to find big profits.

Currencies can also be correlated with the value of commodity exports like gold. Almost everything you need to know about forex correlations is covered in this brief guide. I hope you found this post helpful and amazing. Let me know in the comments down below what you think about forex correlations!

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