Forex Price Action Explained: A complete in-depth guide for the serious trader by Minev Svetlin

Author:Minev, Svetlin [Minev, Svetlin]
Language: eng
Format: epub
Published: 2013-11-19T00:00:00+00:00

Correlation on hourly basis

Table 4

Correlation on daily basis

Table 5

The correlation between the currency pair that I trade and various financial assets plays an important role in my trading strategy.

Unfortunately, the relationship is not always valid, and sometimes cannot be used.

For example, there was a good correlation between the so-called risky assets from approximately 2006 to 2012.

In this group were currencies such as the Euro, British pound and the Australian and New Zealand dollars, stock market indices, gold and other commodities.

This greatly facilitated the trading of the currency pair EUR/USD.

Entries in EUR/USD could be filtered with the price movements of EUR/JPY and GBP/USD, and a stock index such as DAX, FTSE or Dow Jones Industrial Average.

When i was looking for a long position in EUR/USD at the 20-period EMA, I waited EUR/JPY to test the same or another moving average.

Furthermore, all correlated financial instruments had to move in one direction, as the best entries were obtained when the EUR/USD lagged "behind" the others and had to catch up.

When the correlation is strong enough it could be used also in the position management.

For example if I have a long position in EUR/USD, but EUR/JPY and DAX stop their upward movement or even turn down, I would close all or part of my long.

The other option is to move my protective stop closer to current market levels. Major market players like to trade various assets at the same time, when market conditions allow it, and it is good to take advantage of their habits.

Unfortunately, correlations do not always work reliably.

For example, during the last few months there was a good correlation only between EUR/USD and GBP/USD.

The correlation coefficient for the past 50 days was 0.80, but for the past 200 days it was only 0.03.

The correlation between EUR/USD and EUR/JPY turned negative.

The good news is that the correlations have the ability to get restored.

Years ago when trading EUR/USD, I filtered my trading signals with the price movements of GBP/USD, USD/CHF and USD/JPY.

There were periods when you could trade successfully Gold (XAU/USD), using its correlation with the EUR/USD.

The correlation is a good tool to trade various commodities, indices or stocks that have good price relations.

You just have to analyze the correlation between the different financial instruments and to select those that are appropriate for so called pairs trading (or statistical arbitrage).

On Chart 35 you can see the correlation between two of the most popular stock indexes S&P500 and the Dow Jones Industrial Average.

In principle, the correlation between these indices is very high and is regularly 0.97-0.98.

When you find such a strong correlation you can compare the values of the correlation coefficient calculated for a longer period, with one that is calculated for shorter (Chart 36).

When the balance between the two indicators is impaired, you may get opposite positions in the two indexes, waiting for rebalancing.

Download

Copyright Disclaimer:
This site does not store any files on its server. We only index and link to content provided by other sites. Please contact the content providers to delete copyright contents if any and email us, we'll remove relevant links or contents immediately.