There are various currency pair instruments in forex markets. The most prominent ones have USD as one of the currencies.

When trading forex it is important to do the fundamental analysis and technical analysis. But along with that it is also important to know how do currency pairs relate to each other. Knowing that will give you more advantage in terms of making profitable forex trades.

Lets look at correlation of some of the main currency pairs -

 

1. The biggest correlation, infact a negative correlation is between EUR/USD and USD/CHF. Their correlation is as much as 99% onsome occasions. What this means is if the EUR/USD is bullish then USD/CHF most likely will be bearish 99% of the time.

2. The next biggest correlation is between EUR/USD and NZD/USD. Typically these two currency pairs have correlation of about 80+%.

3. The least correlation I have seen is between EUR/USD and USD/CAD. USD/CAD as we know is heavily influenced by oil prices. So it doesn't relate to any other currency pair.

 

Does these relations between Currency pairs change in Forex?

Of course it does. If you compare the connection between currency pairs on a span of 1 month, it may be totally different than the relation over a period of 6 months, which may be different when compared with over thae span of a year!!

It is advised that when you check the coorelation,  you must consider a span of atleast 6 months.

 

How is knowing correlation going to help in forex trading?

Well, the primary way advantage is that you can plan your portfolio better. For e.g. if you have placed trades on 2 currency pairs -Buy on EUR/USD and Buy on USD/CHF, then it means that when both the trades are going to close, your trading account balance may still be the same since these two currency pairs have negative coorelation and so will cancel each others profits.

However placing trade on NZD/USD and USD/JPY will mean a diverse portfolio since they have only 15% correlation.

 

But should the forex trade be made on the basis of only correlations?

Correlation can be one of the inputs. But more than that, it is necessary to have a trading system in place that is extremely reliable!! A system that is simple to follow, yet is extremely effective.

A perfect system is a one that uses clearly defined rules on when to enter the trade and when to exit and leaves no ambiguity!!

 

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