Correlation

Learn how to interpret correlation, which can measure whether or not investments will respond to market conditions in the same way. 

 

Some investments react similarly to changing economic and market conditions. In investment terms, correlation describes the extent to which various types of investments respond in the same way. It is measured on a scale of -1 to +1. Investments with a correlation of +0.5 to +1 tend to react similarly to changing conditions at the same time. If stock X and stock Y have a correlation of +1, then when stock X goes up 10%, stock Y also goes up 10%.

Investments with negative correlations of between -0.5 and -1 tend to react in opposite ways to market changes. If stock X and stock Y have a correlation of -1 and stock X goes up 10%, stock Y would go down 10%. Stocks and bonds are typically negatively correlated.

Other investments are uncorrelated, which means their values are influenced by very different factors. Stocks and agricultural commodities have little or no correlation, for example, and their correlation would be close to 0.

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