Hi all, I wanted to share this chart with you - I am hoping it works when I publish it and the arrows stay inline with the text - something very interesting we all know about currencies moving in tandem with each other to some degree different economic events causing them to stop moving together but eventually they will again.
As a forex trader, if you check several different currency pairs to find the trade setups, you should be aware of the currency pairs correlation, because of two main reasons:
1- You avoid taking the same position with several correlated currency pairs at the same time and so you do not increase your risk. Additionally, you avoid taking opposite positions with the currency pairs that move against each other, at the same time.
2- If you know the currency pairs correlations, it may help you predict the direction and movement of a currency pair, through the signals that you see on the other correlated currency pairs.
If you would like more information describing the affects - reply with a short note and I will paste a URL
This is a great chart -- but respectfully I have a correction. This is not correlation, it's basic numerator denominator cancellation. There is an important difference.
Correlation measures the strength of the relationship of two data sets. This does not show that.
Rather, when you have a FX pair, you are selling the base currency (numerator), and buying the price currency (denominator). To quote investopedia, "if you were looking at the CAD/USD currency pair, the Canadian Dollar would be the base currency and the U.S. dollar would be the quote [price] currency. The price represents how much of the quote currency is needed for you to get one unit of the base currency [src: investopedia.com/terms/b/basecurrency.asp].
So what this chart shows is cancellation. If you take EUR/USD (sell Euro, buy Dollars) and USD/JPY (sell Dollars, buy Yen) then you can fractionally cancel the USD on both sides to just sell Euro, Buy Yen. That has no bearing on the statistical relationship of the pair because its tautological if both sides have the same cancelled variable. In other words, *all* you've done by canceling dollars is see what the final pair (EURJPY in this example) is doing.
Here's where things get confusing -- for most online FX brokers, they *flip* this terminology (base/price). Don't ask me why it makes no sense. But to prove my point, try charting EURUSD / JPYUSD and then just EURJPY. You will see they are identical, and this is the cancellation taking place. This shows that the "if and" parts of your table are redundant to the "then" part is the only relevant part in terms of showing the trend. All you need is the "then".
Hope this was useful, I am only offering this as a helpful point not as any criticism intended.
Oztrade
⋅
Thanks SPY - makes perfect sense, we know the meaning for correlation and cancellation so in terms you are right a correlated pair would affect the cross currency being said it would cancel it out. investopedia.com/articles/forex/05/051905.asp this explains correlation more in depth and the correct formulas for calculating. I haven't really worried about this at all, I guess more for input from other traders to see their thoughts - when I back test I don't use correlation in my back testing so I just trade my plan and stick to it. Same as fundamentals they don't concern me at all - I mentioned this to some friends who are also traders that if they worried about fundamentals and news events then they would have or should have applied this in their back testing to get perfect results, its ironic that they can back test a strategy for 1 year 5 years or what ever and then in real trading they dont trade through big news events. Their are a million ways to make profit in the market many different strategies there is not one set way and it is great to hear all the stories from us traders. I also implement the Kaizen Philosophy into my trading - Thanks again for your input on this
SPYderCrusher
⋅
Definitely, and thank you for the follow-up. Good stuff :D
UnknownUnicorn101425
⋅
This is a really good point about the back testing, people backtest their trading method, and most don´t remember if there were news coming out on 2012-3-16 so they just trade it if there is a setup. And in the end they should of course end out with a profitable result. They take the pairs that perform the best and make a portfolio that of course is OBVIOUS too correlated and then they start to panic about news, correlations, fundamentals.
When they were backtesting they did non of that they just testet every single setup when it showed it self and that is consistency! Then when they start trading they are worried about a thousand things we can´t predict anyway. Like this weeks FOMC, i know its a bit special this time but i´m just gonna trade like any other day. i´ve been trading the same method for 5 years, and i´ve seen a lot of FOMC and odd enough my equity is still making new higher highs every month. Its the consistency to stick to profitable model that is important. If you got 2-3 trades going the same way what does it matter in the long run, cause you will have just as many 2-3 trades going your way with a good R:R its money in the pocket. Consistency is the key! No fear or greed! Just my 0.2 Cents..
And thanks for your message Oztrade i´ve been busy as no words can describe so had not had the chance to wite you back yet, just fell over this post over my breakfast =D
Kind regards.
Thomas Jeff
Oztrade
⋅
Thanks Thomas - hope all is well and your back is doing better. Thanks for your insight on this and you are 110% right trade the plan. I brought this topic up the other day regarding backtesting because most people dont take into account news events and massive spikes and in backtesting it shows them great numbers - but in real they take a lot of it out from things they listen to. If they just stick to their plan follow their rules and trade it they will produce the positive expectancy and have results. All the best and happy trading this week.
Eng_Kuwaity
⋅
How about EURNZD
IvanLabrie
⋅
You can reduce redundancy by trading the highest liquidity pairs alone too.
Correlations come and go, but it's good to understand what fundamentals link pairs together.
Nice chart!
Oztrade
⋅
Thanks Ivan - yeah I seen that correlation come and goes - if it were in sync 100% of the time then we would all have a better advantage. I guess my main query with all this was if I am 50.1% sure that a pair was going to roll over - just an example if there is a cypher pattern completion on AUDCAD and AUSUSD similar to like we are seeing now - and all the signals were telling me that it has a high probable chance that it will fill my order and roll over to at least hit one target - based on other filters and confluences as well - then instead of having 2 positions why wouldnt one just increase position size on one pair. This would be the same as losing 2 trades or winning both. I hate reading into things - the more I read the more it makes one think.
IvanLabrie
⋅
Increasing risk in that scenario would be the same as increasing risk for increasing risk's sake. I don't see an edge, if both aud pairs look similar it simply means that the aud element in both is getting stronger, not necessarily usd or cad in particular becoming weaker.
What SpyderCrusher mentions is important to consider.
What are the markets that really DRIVE prices and make all the ratio charts look like they look?
The usd pairs! So, why not focus on usd pairs to understand individual currency strength or weakness?
That's what I try to do at least.
Oztrade
⋅
Great point Ivan - you are 100% right as the USD is the currency that drives most. And focusing on the most liquid pairs. Excellent to have your input. Looking forward to back testing and putting together another strategy and portfolio I am working on. Thanks
Correlation measures the strength of the relationship of two data sets. This does not show that.
Rather, when you have a FX pair, you are selling the base currency (numerator), and buying the price currency (denominator). To quote investopedia, "if you were looking at the CAD/USD currency pair, the Canadian Dollar would be the base currency and the U.S. dollar would be the quote [price] currency. The price represents how much of the quote currency is needed for you to get one unit of the base currency [src: investopedia.com/terms/b/basecurrency.asp].
So what this chart shows is cancellation. If you take EUR/USD (sell Euro, buy Dollars) and USD/JPY (sell Dollars, buy Yen) then you can fractionally cancel the USD on both sides to just sell Euro, Buy Yen. That has no bearing on the statistical relationship of the pair because its tautological if both sides have the same cancelled variable. In other words, *all* you've done by canceling dollars is see what the final pair (EURJPY in this example) is doing.
Here's where things get confusing -- for most online FX brokers, they *flip* this terminology (base/price). Don't ask me why it makes no sense. But to prove my point, try charting EURUSD / JPYUSD and then just EURJPY. You will see they are identical, and this is the cancellation taking place. This shows that the "if and" parts of your table are redundant to the "then" part is the only relevant part in terms of showing the trend. All you need is the "then".
Hope this was useful, I am only offering this as a helpful point not as any criticism intended.