What is a good correlation between two stocks?

A correlation coefficient of 1 indicates a perfect positive correlation between the prices of two stocks, meaning the stocks always move the same direction by the same amount. A coefficient of -1 indicates a perfect negative correlation, meaning that the stocks have historically always moved in the opposite direction.

How do you know if two stocks correlate?

To find the correlation between two stocks, you’ll start by finding the average price for each one. Choose a time period, then add up each stock’s daily price for that time period and divide by the number of days in the period. That’s the average price. Next, you’ll calculate a daily deviation for each stock.

How do you calculate predicted stock returns?

Expected returns (nominal, annualized over the next 10 years) = Starting Dividend Yield + Earnings Growth rate + Percentage change (annualized) in the P/E multiple. Not bad! A simple three-factor model to predict stock returns. The starting dividend yield is known.

How do you know if a correlation is strong or weak?

The relationship between two variables is generally considered strong when their r value is larger than 0.7. The correlation r measures the strength of the linear relationship between two quantitative variables. Pearson r: r is always a number between -1 and 1.

What is the ideal correlation for a portfolio?

A correlation of 1.00 indicates perfect correlation, while lower numbers indicate that the asset classes are not correlated and generally do not move in tandem with each other—or, when the market moves down, these asset classes may not fall as much as the market in general, which could mitigate risk in your portfolio.

How do correlations work?

The main result of a correlation is called the correlation coefficient (or “r”). It ranges from -1.0 to +1.0. The closer r is to +1 or -1, the more closely the two variables are related. If r is positive, it means that as one variable gets larger the other gets larger.

How do you know if a stock has a negative correlation?

To determine whether there is a negative correlation between two stocks, run a linear regression on the individual stock prices by having one stock serve as the dependent variable and the other as the independent variable.

Does the correlation coefficient predict returns in the stock market?

Updated Nov 16, 2018. The correlation coefficient has limited ability in predicting returns in the stock market for individual stocks, but it may have value in predicting the extent to which two stocks move in relation to each other.

What does it mean if two stocks have a 0 correlation?

If two stocks have a correlation coefficient of 0, it means there is no correlation and, therefore, no relationship between the stocks. It is unusual to have either a perfect positive or negative correlation.

How do you calculate the correlation coefficient?

The calculation of the correlation coefficient takes the covariance of the stocks against the mean returns for each stock divided by the product of the standard deviation of the returns of each stock. The correlation coefficient is basically a linear regression performed on each stock’s returns against the other.

What does the correlation between two stocks and their industries mean?

We can see the correlation coefficient is currently at 0.98, which is signaling a strong positive correlation. A reading above 0.50 typically signals a positive correlation. Understanding the correlation between two stocks (or a single stock) and its industry can help investors gauge how the stock is trading relative to its peers.