Correlation Between DOW and High Income

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Can any of the company-specific risk be diversified away by investing in both DOW and High Income at the same time? Although using a correlation coefficient on its own may not help to predict future stock returns, this module helps to understand the diversifiable risk of combining DOW and High Income into the same portfolio, which is an essential part of the fundamental portfolio management process.
By analyzing existing cross correlation between DOW and High Income Fund, you can compare the effects of market volatilities on DOW and High Income and check how they will diversify away market risk if combined in the same portfolio for a given time horizon. You can also utilize pair trading strategies of matching a long position in DOW with a short position of High Income. Check out your portfolio center. Please also check ongoing floating volatility patterns of DOW and High Income.

Diversification Opportunities for DOW and High Income

0.77
  Correlation Coefficient

Poor diversification

The 3 months correlation between DOW and ACHFX is 0.77. Overlapping area represents the amount of risk that can be diversified away by holding DOW and High Income Fund in the same portfolio, assuming nothing else is changed. The correlation between historical prices or returns on High Income Fund and DOW is a relative statistical measure of the degree to which these equity instruments tend to move together. The correlation coefficient measures the extent to which returns on DOW are associated (or correlated) with High Income. Values of the correlation coefficient range from -1 to +1, where. The correlation of zero (0) is possible when the price movement of High Income Fund has no effect on the direction of DOW i.e., DOW and High Income go up and down completely randomly.
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Pair Corralation between DOW and High Income

Given the investment horizon of 90 days DOW is expected to under-perform the High Income. In addition to that, DOW is 2.4 times more volatile than High Income Fund. It trades about -0.37 of its total potential returns per unit of risk. High Income Fund is currently generating about -0.22 per unit of volatility. If you would invest  827.00  in High Income Fund on June 29, 2022 and sell it today you would lose (15.00)  from holding High Income Fund or give up 1.81% of portfolio value over 90 days.
Time Period3 Months [change]
DirectionMoves Together 
StrengthSignificant
Accuracy80.95%
ValuesDaily Returns

DOW  vs.  High Income Fund

 Performance (%) 
       Timeline  

DOW and High Income Volatility Contrast

   Predicted Return Density   
       Returns  

DOW

Pair trading matchups for DOW

The effect of pair diversification on risk is to reduce it, but we should note this doesn't apply to all risk types. When we trade pairs against DOW as a counterpart, there is always some inherent risk that will never be diversified away no matter what. This volatility limits the effect of tactical diversification using pair trading. DOW's systematic risk is the inherent uncertainty of the entire market, and therefore cannot be mitigated even by pair-trading it against the equity that is not highly correlated to it. On the other hand, DOW's unsystematic risk describes the types of risk that we can protect against, at least to some degree, by selecting a matching pair that is not perfectly correlated to DOW.

High Income Fund

Pair trading matchups for High Income

Pair Trading with DOW and High Income

The main advantage of trading using opposite DOW and High Income positions is that it hedges away some unsystematic risk. Because of two separate transactions, even if DOW position performs unexpectedly, High Income can make up some of the losses. Pair trading also minimizes risk from directional movements in the market. For example, if an entire industry or sector drops because of unexpected headlines, the short position in High Income will offset losses from the drop in High Income's long position.
The effect of pair diversification on risk is to reduce it, but we should note this doesn't apply to all risk types. When we trade pairs against DOW as a counterpart, there is always some inherent risk that will never be diversified away no matter what. This volatility limits the effect of tactical diversification using pair trading. DOW's systematic risk is the inherent uncertainty of the entire market, and therefore cannot be mitigated even by pair-trading it against the equity that is not highly correlated to it. On the other hand, DOW's unsystematic risk describes the types of risk that we can protect against, at least to some degree, by selecting a matching pair that is not perfectly correlated to DOW.
The idea behind DOW and High Income Fund pairs trading is to make the combined position market-neutral, meaning the overall market's direction will not affect its win or loss (or potential downside or upside). This can be achieved by designing a pairs trade with two highly correlated stocks or equities that operate in a similar space or sector, making it possible to obtain profits through simple and relatively low-risk investment.
High Income vs. Cisco Systems
Check out your portfolio center. Note that this page's information should be used as a complementary analysis to find the right mix of equity instruments to add to your existing portfolios or create a brand new portfolio. You can also try Portfolio Suggestion module to get suggestions outside of your existing asset allocation including your own model portfolios.

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