What is Currency Correlation?
Currency correlation refers to the relationship between different currency pairs in the forex market. When two pairs are positively correlated, they tend to move in the same direction. When they are negatively correlated, they tend to move in opposite directions.
Understanding these relationships can help traders:
- Diversify their portfolio
- Avoid taking redundant positions
- Reduce overall risk
- Identify potential hedging opportunities
- Confirm trading signals
How to Use This Information
The correlation matrix provides valuable insights for trading strategies:
- Diversification: Trading positively correlated pairs can increase risk, as losses may multiply across positions. Consider choosing pairs with low correlation.
- Confirmation: If you see a signal on one pair, check correlated pairs for confirmation of the trend.
- Hedging: Negatively correlated pairs can help hedge existing positions during uncertain market conditions.
- Arbitrage: Temporary deviations in historically correlated pairs might present arbitrage opportunities.
Remember that correlations can and do change over time, especially during major economic events or market regime changes.