Correlation Between BCD and AE
Can any of the company-specific risk be diversified away by investing in both BCD and AE 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 BCD and AE into the same portfolio, which is an essential part of the fundamental portfolio management process.
By analyzing existing cross correlation between BCD and AE, you can compare the effects of market volatilities on BCD and AE 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 BCD with a short position of AE. Check out your portfolio center. Please also check ongoing floating volatility patterns of BCD and AE.
Diversification Opportunities for BCD and AE
Poor diversification
The 3 months correlation between BCD and AE is 0.73. Overlapping area represents the amount of risk that can be diversified away by holding BCD and AE in the same portfolio, assuming nothing else is changed. The correlation between historical prices or returns on AE and BCD 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 BCD are associated (or correlated) with AE. Values of the correlation coefficient range from -1 to +1, where. The correlation of zero (0) is possible when the price movement of AE has no effect on the direction of BCD i.e., BCD and AE go up and down completely randomly.
Pair Corralation between BCD and AE
Assuming the 90 days trading horizon BCD is expected to generate 1.17 times more return on investment than AE. However, BCD is 1.17 times more volatile than AE. It trades about 0.03 of its potential returns per unit of risk. AE is currently generating about -0.01 per unit of risk. If you would invest 7.55 in BCD on August 25, 2024 and sell it today you would lose (0.03) from holding BCD or give up 0.4% of portfolio value over 90 days.
| Time Period | 3 Months [change] |
| Direction | Moves Together |
| Strength | Significant |
| Accuracy | 100.0% |
| Values | Daily Returns |
BCD vs. AE
Performance |
| Timeline |
| BCD |
| AE |
BCD and AE Volatility Contrast
Predicted Return Density |
| Returns |
Pair Trading with BCD and AE
The main advantage of trading using opposite BCD and AE positions is that it hedges away some unsystematic risk. Because of two separate transactions, even if BCD position performs unexpectedly, AE 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 AE will offset losses from the drop in AE's long position.The idea behind BCD and AE 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.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 the Portfolio Diagnostics module to use generated alerts and portfolio events aggregator to diagnose current holdings.
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