Best Thread Correlation Trading - Basic Ideas and Strategies

[NVP]

Hi,

Sorry if this is a dumb question, but it’s been bugging me for a while. I’ve read a lot of this thread but can’t seem to find an obvious answer to it.

If someone takes a directional view on correlation, i.e. believes it’s going to increase or decrease, how can he/she profit from that view in the spot market? Is there a position or combination of positions to take?

For example, if I think the correlation between EUR/USD and GBP/USD is likely to INCREASE, what can I do to capitalise on that opinion? Doesn’t the correlation just mean how often an increase/decrease in one rate corresponds to an increase/decrease in the other?

It doesn’t say anything about the relative increase in each pair. So if I long one and short the other (take a position in EUR/GBP), I could lose out depending on how MUCH EUR/USD changed relative to GBP/USD, even if the correlations did in fact increase. Same if I go long both pairs or short them both.

Does this make sense? Is there a way to profit from changes in correlation?

Great thread by the way.

Hey S

Correlation is a description of the relative directions seen

moving together in same direction
NOT moving together in same direction
No specific pattern - random movements

and then you have to understand the relative strength of the movements as well seperately (Strong / weak)

so for me my classic is the Yen and USD

They have a high positive Correlation mostly (move together)........BUT (generally) the Yen is a much Stronger than the USD in its moves so sometimes on a U/J pair this Strength differential looks like a strong trading opportunity
(which technically it is)

see chart (today) - Green and Yellow lines

BUT for me thats only eating half of the pie

I want Strong powerful moves on both Currencies and that are strongly opposite in correlation(negatively correlated currencies)

see chart - Red and Yellow lines

ask me more questions

N

 

[NVP]

Hi,

Sorry if this is a dumb question, but it’s been bugging me for a while. I’ve read a lot of this thread but can’t seem to find an obvious answer to it.

If someone takes a directional view on correlation, i.e. believes it’s going to increase or decrease, how can he/she profit from that view in the spot market? Is there a position or combination of positions to take?
let me know again now what you mean by increasing correlation if not below...

For example, if I think the correlation between EUR/USD and GBP/USD is likely to INCREASE, what can I do to capitalise on that opinion? Doesn’t the correlation just mean how often an increase/decrease in one rate corresponds to an increase/decrease in the other?
ok - remember I dont understand the pairchart deffinition of correlation ...I reject paircharts and look at the FXcorrelator where I can compare pure currencies :smart: !

if the correlation (direction) of the GBP against the EUR increases - (ie they are moving much more together in parallel) that to me is not a trading oportunity as theres no gap between them....rather i like this as if they are moving together and trending then it must mean some of the others are moving more in opposite direction - trade time !

It doesn’t say anything about the relative increase in each pair. So if I long one and short the other (take a position in EUR/GBP), I could lose out depending on how MUCH EUR/USD changed relative to GBP/USD, even if the correlations did in fact increase. Same if I go long both pairs or short them both.

for this triangle of currencies in my opinion ....the Euro and GBP whilst not bosom buddies do tend to move more together than the usd

so generally a buy & buy (E/U & G/U) trades are duplicating in the overall market scheme of things

and a Buy sell on (E/U & G/U) is really trading the E/G ......
Does this make sense? Is there a way to profit from changes in correlation?

Great thread by the way.

if you dig way back in the thread I had a trading partner / mentor called "JRP limited" ....he was a trading legend having traded in both the US and the UK and was not well known at T2W..... but if you read his threads you will see he traded the GBP/USD and Euro pairs only and respected their triangular relationship.....sadly he has passed away now from Cancer but his genius thankfully lives on in this thread.........tip of the iceberg though....jees that boy could trade..... :smart:

http://www.trade2win.com/boards/for...g-basic-ideas-strategies-756.html#post1433898



N

 

[NVP]

MEET THE FAMILY

http://www.trade2win.com/boards/for...ding-basic-ideas-strategies-2.html#post876536

nearly 3 years old but still pretty relevent regarding correlation...3 years later I am actually a little more relaxed about all the rules but this is still pretty good

I'm probably a little less strict on CAD....personally these days I would run it as correlating more alongside the Yen and USD ......all depends though as U/C can be a nice trade sometimes :smart:

N

 

[Scouser76]

if you dig way back in the thread I had a trading partner / mentor called "JRP limited" ....he was a trading legend having traded in both the US and the UK and was not well known at T2W..... but if you read his threads you will see he traded the GBP/USD and Euro pairs only and respected their triangular relationship.....sadly he has passed away now from Cancer but his genius thankfully lives on in this thread.........tip of the iceberg though....jees that boy could trade..... :smart:

http://www.trade2win.com/boards/for...g-basic-ideas-strategies-756.html#post1433898



N

Hi N,

I guess I am asking, is there any way to make a pure play on correlation moves, rather than having to take a directional position as well?

Perhaps a strategy that could replicate the benefits of a correlation swap (i.e betting on correlation moves and not have to worry about which direction the currencies are going to move as such).

If I make a prediction that the correlation between two pairs is going to change, I'd like to be able to make a bet just on that and eliminate or at least mitigate having to take a view on which direction the currencies are going to move.

 

[NVP]

Hi N,

I guess I am asking, is there any way to make a pure play on correlation moves, rather than having to take a directional position as well?

Perhaps a strategy that could replicate the benefits of a correlation swap (i.e betting on correlation moves and not have to worry about which direction the currencies are going to move as such).

If I make a prediction that the correlation between two pairs is going to change, I'd like to be able to make a bet just on that and eliminate or at least mitigate having to take a view on which direction the currencies are going to move.

hey S

I know what you are asking .....

Scenario 1

lets say that the example of the G/U and the E/U have just gone 10 bars in the Same direction - thats a +100% correlation on a rolling 10 bar system

so now you say that this "perfection" cannot continue so you look to try to benefit from a breakdown in that 100% score

so you need to create a trade that benefits from Negative correlation in the next few bars....or in other words Divergence

its really then just a breakout / Straddle Trade.... as remember you cannot predict which way the guys are gonna de-correlate until you see the move

so really its like watching the E/G on a chart in a Tight flat Pattern (use an envelope to help) and trading the breakout


Scenario 2

lets assume those G/U & E/U dudes have just gone 10 bars in opposite direction
thats a -100% correlation

so now you say that this "imperfection" cannot continue so you look to try to benefit from an increase in that -100% score

so you need to create a trade that benefits from positive correlation in the next few bars

increasing Positive correlation has little value.....as remember all this is is the guys moving together more .....wheres the money in that ?

the only value here is in trading them against other pairs ..as if they show positive correlation moving together in a strong trend then other currencies will be being sent the other way ..........(in fact if E/G and G/U are trading in high % correlation then generally you will having a nice trade on both of these pairs anyway !)

also remember a high correlation between G/U and E/U does not necessarily mean you have a nice trend on those pairs......the guys could have moved the same direction for last 10 bars but 5 could have been up and 5 down....

dont get me wrong ..there is tremendous value in understanding the correlation between 2 pairs or 2 currencies but its then about "so what" and its trading implications ....

let me know thoughts S as I am by no means an expert and always learning ....:smart:

N

 

[NVP]

heres the week so far

Solid (negative) correlation on DOW/YEN/USD so far.....

and look at the GBP .....I said it was due a hit and it did take pain on the Recession news (you were surprised ?....c'mon )

jees then what a return from the brink !....although the big Dow rise naturally helped


N

 

[NVP]

hey all

sorry very tied up today elsewhere.....will try to be more available tomorrow

 

[NVP]

hey all


The Market looked at Japan in the early hours and said
is that all you’ve got ?


Yen machine already back on track moving north ………boy is today gonna be fun ……….and if the Dow tanks ……whoa !

(yes this post was slightly delayed as my Facebook and linked in stuff got tangled...sorry it was released later and you missed the current yen climb not shown on the chart here)

N

 

[NVP]

sooo

Dow is falling , USD and Yen are rising

what are you waiting for ? - xmas ?

N

 

[NVP]

ok understood we may get some retracement now ....but just be ready again if Dow breaches the 13,150's south

 

[NVP]

damn that yen wont fall....Strong dude !

you can wait for the Dow to fall again to really buy into the Yen

or perhaps some U/J sells as clearly the yen is stronger than the USD presently

https://twitter.com/#!/fxcorrelator1
http://www.facebook.com/fxcorrelator

 

[NVP]

someone just asked me about buying gold on lower TF's

personally ?

naaah......the ole G is deep south with USD ....stick to the more traditional currency plays against USD as they are creaming it !

 

[NVP]

and I see in more recent times the Yen switches back to full blooded (neg) correlation with the rising Dow...that why I dont trade the U/J much.....!

http://www.facebook.com/fxcorrelator
https://twitter.com/#!/fxcorrelator1

 

[NVP]

hey Gang

well an interesting week !

as you all know I follow the correlation between the Dow the yen and the USD …a lot !

sure its not perfect …..and in fact you learn a lot when its not correlating as well ….so dont underestimate its uses !

anyway heres a different view of the week

heres the Dow on the left day by day moves…and then on the right is my FXcorrelator X-Men on a daily 1ma setting ....so you see the net daily moves of the yen and usd verses the Dow (ive hidden the other 6 currencies)

http://www.trade2win.com/boards/forex-strategies-systems/71854-correlation-trading-basic-ideas-strategies-1068.html#post1801140

see how our first 3 days were 100% negative correlation and then the Yen went Awol on Thursday Friday …..off the back of the BoJ stating they would effectively increase their own version of QE….

wait ..did you say increase QE NVP ?

Yep …….the market priced it in within minutes and Trader poured into the weakness of the policy

but look at the USD …….thats a 4 from 5 this week 80% negative correlation to the Dow ……(It was literally dragged north on Thursday by the Yen)

if you cant get an edge with that then you need to take up knitting instead of Trading !

cheers :smart:
N

 

[NVP]

ive dropped the blue Euro back in

look at first 3 days............100% correlation ....sigh

thursday was a pig........big announcements that really move a currency screw a lot of standard correlation to pieces ....although you can always chose to ignore that particular currency completely and play the others based on their position above / below each other (ignoring the Zero line)

Yen was still cranky on Friday with strong trading support (A strong yen and a Strong Dow was only going to further bury the USD...but thats another story) .....but look at the Euro strongly ABOVE the USD.....sure they were both below the Zero but it still had potential based on what i said above ?

although with that in mind on Friday there were other currency buys (like the AUD not shown) that were actually above the zero with the Yen so they were much better trades against the USD

N :smart:

 

[NVP]

you dont believe me re Friday and the AUD ?

JEES !!!

N

 

[NVP]

and heres the lines back on the Normal FXcorrelator

the GBP CAD and the Yen shared the big wins this week....the Yen courtesy of its goverments intervention (or lack of it ?)

in fact if you look the brown CAD was flying by mid week but cooled off....

USD was the bottom feeder....

N :smart:

 

[NVP]

hey gang

can I ask for a little help here please ?

I have never taken the time to really learn Mt4 programming...such is life !

heres the FXcorrelator attached

I was digging though some archived files but cannot find a version I had which did the following

you could set a "Start date/time" parameter in the coding to over-ride the normal "rolling" setting that it has by default

in other words I want to be able to start all the lines at "Zero" at a fixed point (like say the new trading day or week or even month or year)

I dont think its too difficult adapting the current corrie below and i'm really peeved ive lost it
(tee hee)

Heres a little bonus if this helps ....Hanover is a very very good Programmer and Trader over on FF but I have e-mailed him a few times for a chat or to discuss some ideas but he is a busy dude and i am not going to bother him again

This thread has some good Strengthmeter programming on it if this helps ...theres an .Ex4
programme that purports to offer Fixed start parameters but I see no reason why something so simple cannot be offered as part of a .Mt4 "open" package for people to work on and improve
(like I offer the FXcorrelator here ....its not rocket science)

Recent Strength indicator @ Forex Factory

thanks
N

 

[Petar_Serbia]

Hi there mate,
How are you ?
How your trades dude ?


I didnt check this theard long time ..

Best Regards
Petar

 

[NVP]

heres the duckfest** on friday - viewed through the FXcorrelator (X-men version)

Left chart is a 4hr on a 60ma (all week)
Right charts is a 1hr on a 60ma (Friday)
5min chart not shown as to fast

the green USD got some real pain didnt it ?

I assume the 3 duck system was indicating a few nice USD sells on those pairs

N

** Captain Currencies 3 duck system