Currency Correlation - Make It Your Sixth Sense

Currency correlation number measures existing relationship between different currency pairs and its market correlated variables like equities, bonds, gold, and crude oil.

In statistics, correlation is defined as a broad class of statistical relationships between two or more random variables.

One such example is the correlation between the demand or supply of a product and its price.

Dollar Correlation Table

USD/CHF and NZD/USD Correlation

S&P 500 and Dow Jones Correlation

Dollar-Bonds Correlation

Dollar-Gold Correlation

Dollar-Oil Correlation

The study of currency correlation is very beneficial to traders because it can indicate a predictive relational behavior that can be implemented in practice.

For example, forex earnings and forex education are positively correlated.

I can guarantee, if a trader is committed to educate on forex the trader will likely increase forex earnings.

On the other hand, TV viewing experience is negatively correlated with one's income unless one gets paid for watching TV, or one who watches TV also anchors it.

Correlation strength is measured in a scale from -1 to +1 scale with 0 being the neutral position (no correlation whatsoever), negative number implies opposite reaction, and positive number implies same effect.

In terms of correlation strength in the above example, a trader's forex education will score close to +1 (100%) or strong positive correlation with forex earnings, whereas one's TV viewing experience will score close to -1 (-100%) or strong negative correlation with one's income (again unless if one is paid big salary just for watching TV).

I chiefly trade EUR/USD only.

In the forex world, I find EUR/USD correlate with many variables.

Knowing the strength of currency correlation factors help me with diversification, proper portfolio management and risk aversion.

Throughout my trading session I continuously watch these EUR/USD correlated variables like a hawk.

Besides fundamental and technical analysis, I use price movements in these correlated variables to aid my trading decision such as market timing and forex entry signal.

Just as an understanding of currency correlation offers great aid in making profitable trading decision, traders beware that correlation does not measure cause.

Remember though...

Simply, let me put this way: correlation tells us that two variables such as EUR/USD and USD/CHF are related but we can not pinpoint the cause and effect relationship between the two variables in study.

I can not say for fact if EUR/USD caused the up movement so USD/CHF followed down movement or vice-versa.

Also traders beware that correlation changes over time.

Currently the correlation that exists between different pairs of currency may take different shape and forms with evolution of time.

This is so true in our very dynamic forex market. Currency valuation of any nation changes over time with changes in various economic, political and social changes.

So watch out for these changes that will give you heads up should there be any change in correlation between pairs that exits today.