DEFINITION of 'Correlation'

In the world of finance, a statistical measure of how two securities move in relation to each other. Correlations are used in advanced portfolio management.


Loading the player...

BREAKING DOWN 'Correlation'

Correlation is computed into what is known as the correlation coefficient, which ranges between -1 and +1. Perfect positive correlation (a correlation co-efficient of +1) implies that as one security moves, either up or down, the other security will move in lockstep, in the same direction. Alternatively, perfect negative correlation means that if one security moves in either direction the security that is perfectly negatively correlated will move in the opposite direction. If the correlation is 0, the movements of the securities are said to have no correlation; they are completely random.

In real life, perfectly correlated securities are rare, rather you will find securities with some degree of correlation.

  1. Inverse Correlation

    A contrary relationship between two variables such that they ...
  2. Negative Correlation

    A relationship between two variables in which one variable increases ...
  3. Positive Correlation

    A relationship between two variables in which both variables ...
  4. Correlation Coefficient

    A measure that determines the degree to which two variable's ...
  5. Modern Portfolio Theory - MPT

    A theory on how risk-averse investors can construct portfolios ...
  6. Covariance

    A measure of the degree to which returns on two risky assets ...
Related Articles
  1. Economics

    Will a Hike in Interest Rates Affect the US Dollar?

    Learn about how rising U.S. interest rates affect the U.S. dollar and where the dollar could be heading once the rising rate cycle begins again.
  2. Retirement

    Are Oil Stocks Safe for Retirees?

    Learn how retirees might want to consider oil stocks for their portfolios because of strong dividends. Understand the risks retirees face with oil stocks.
  3. Stock Analysis

    ConocoPhillips Stock: A Dividend Analysis

    Discover a detailed analysis of ConocoPhillips' dividend policy, and explore a comparison between the dividend policies of its competitors.
  4. Stock Analysis

    The 4 Best S&P 500 Index Funds

    Discover detailed analysis of the best S&P 500 Index funds, and learn about their characteristics, historical statistics and suitability.
  5. Economics

    The Effect of Fed Fund Rate Hikes on Gold

    Explore the historical relationship between interest rate increases and the price of gold, and consider what effect a fed funds rate hike might have on gold.
  6. Mutual Funds & ETFs

    Top 2 Norway ETFs

    Learn about the top two exchange-traded funds, or ETFs, that track the Norway equity market, and explore analyses of their characteristics and suitability.
  7. Mutual Funds & ETFs

    Top 4 Inverse Bonds ETFs

    Explore analysis of popular inverse bond ETFs that track the U.S. Treasury market, and learn how to use the ETFs as a tactical day trade if interest rates rise.
  8. Mutual Funds & ETFs

    Top 3 Africa ETFs

    Explore detailed analysis of the top three exchange-traded funds that track the African companies, and learn the type of investors these ETFs and suitable for.
  9. Mutual Funds & ETFs

    ETF Analysis: SPDR S&P Regional Banking

    Learn about the SPDR S&P Regional Banking Fund, an exchange-traded fund (ETF) that invests in equities of regional banks located in the United States.
  10. Mutual Funds & ETFs

    ETF Analysis: First Trust Europe AlphaDEX

    Learn about the First Trust ISE Europe AlphaDEX Fund, and explore detailed analysis of the ETF that tracks European stocks with high alphas.
  1. What types of assets lower portfolio variance?

    Assets that have a negative correlation with each other reduce portfolio variance. Variance is one measure of the volatility ... Read Full Answer >>
  2. How does being overweight in a particular sector increase risk to a portfolio?

    An investor who is overweight in a particular sector risks a loss in value for the portfolio if there is a downturn in that ... Read Full Answer >>
  3. How can I use risk return tradeoff to determine my risk tolerance and investment ...

    An investor can use the risk-return tradeoff to determine what type of assets to include in a portfolio. The risk-return ... Read Full Answer >>
  4. How does the risk of investing in the oil and gas sector compare to the broader market?

    The oil and gas sector has unique risks, since it is exposed to fluctuations in the prices of oil and natural gas as opposed ... Read Full Answer >>
  5. How do investment advisors calculate how much diversification their portfolios need?

    One effective tool for investment advisers to determine the amount of diversification necessary for a portfolio is modern ... Read Full Answer >>
  6. What level of correlation among investments will guarantee market returns but have ...

    The efficient frontier set forth by modern portfolio theory (MPT) can provide an estimate of an optimal portfolio that allows ... Read Full Answer >>
  7. During what stage of the economic cycle should I invest in the drugs sector?

    Invest in the drugs sector during the expansionary stage of the economic cycle, when the broader market is rising. The absolute ... Read Full Answer >>
  8. What is RiskMetrics in Value at Risk (VaR)?

    RiskMetrics is a methodology that contains techniques and data sets used to calculate the value at risk (VaR) of a portfolio ... Read Full Answer >>
  9. What does a negative correlation coefficient mean?

    A negative correlation coefficient means that, for any two variables X and Y, an increase in X is associated with a decrease ... Read Full Answer >>
  10. How should I interpret a negative correlation?

    A negative correlation between two variables means that one variable increases whenever the other decreases. This relationship ... Read Full Answer >>
  11. How does covariance impact portfolio risk and return?

    Covariance provides diversification and reduces the overall volatility for a portfolio. Covariance is a statistical measure ... Read Full Answer >>
  12. What is the difference between ceteris paribus and mutatis mutandis?

    Ceteris paribus and mutatis mutandis are Latin phrases commonly used as shorthand to explain certain ideas in economics and ... Read Full Answer >>
  13. What trading strategies help investors withstand a drawdown?

    Two primary trading strategies to help a trader withstand a drawdown are hedging and following simple money management rules. Drawdown, ... Read Full Answer >>
  14. What does it mean if the correlation coefficient is positive, negative, or zero?

    The correlation coefficient measures the robustness of the relationship between two variables. Pearson's correlation coefficient ... Read Full Answer >>
  15. How can you calculate correlation using Excel?

    Correlation measures the degree to which two variables move in relation to each other. High positive correlations mean that ... Read Full Answer >>
  16. How is correlation used differently in finance and economics?

    Financial correlations are drawn to better understand and improve financial activities, such as investing or marketing. Economic ... Read Full Answer >>
  17. How do you calculate r-squared in Excel?

    R-squared is a statistical relationship between two series of events. It is also a risk measure that is used in economics ... Read Full Answer >>
  18. What's the difference between r-squared and correlation?

    R-squared is a statistical analysis of the practical use and trustworthiness of beta (and by extension alpha) correlations ... Read Full Answer >>
  19. Are oil prices and interest rates correlated?

    Yes. No. Maybe. Definitely. There's no easy answer to this question. While many theories abound, the reality is that oil ... Read Full Answer >>
  20. What is the correlation between American stock prices and the value of the U.S. dollar?

    The correlation between any two variables (or sets of variables) summarizes a relationship, whether or not there is any real-world ... Read Full Answer >>
  21. Is there a correlation between inflation and house prices?

    There is a correlation between inflation and house prices - in fact there are correlations between inflation and any good ... Read Full Answer >>
  22. What is the relationship between oil prices and inflation?

    The price of oil and inflation are often seen as being connected in a cause and effect relationship. As oil prices move up ... Read Full Answer >>
  23. How are foreign exchange rates affected by commodity price fluctuations?

    In the foreign exchange (forex) market, currency valuations move up and down as a result of many factors, including interest ... Read Full Answer >>

You May Also Like

Hot Definitions
  1. Black Friday

    1. A day of stock market catastrophe. Originally, September 24, 1869, was deemed Black Friday. The crash was sparked by gold ...
  2. Turkey

    Slang for an investment that yields disappointing results or turns out worse than expected. Failed business deals, securities ...
  3. Barefoot Pilgrim

    A slang term for an unsophisticated investor who loses all of his or her wealth by trading equities in the stock market. ...
  4. Quick Ratio

    The quick ratio is an indicator of a company’s short-term liquidity. The quick ratio measures a company’s ability to meet ...
  5. Black Tuesday

    October 29, 1929, when the DJIA fell 12% - one of the largest one-day drops in stock market history. More than 16 million ...
  6. Black Monday

    October 19, 1987, when the Dow Jones Industrial Average (DJIA) lost almost 22% in a single day. That event marked the beginning ...
Trading Center