Correlation Between Cotton and Aluminum Futures

Can any of the company-specific risk be diversified away by investing in both Cotton and Aluminum Futures 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 Cotton and Aluminum Futures into the same portfolio, which is an essential part of the fundamental portfolio management process.

By analyzing existing cross correlation between Cotton and Aluminum Futures, you can compare the effects of market volatilities on Cotton and Aluminum Futures 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 Cotton with a short position of Aluminum Futures. Check out your portfolio center. Please also check ongoing floating volatility patterns of Cotton and Aluminum Futures.

Diversification Opportunities for Cotton and Aluminum Futures

-0.32

Correlation Coefficient

Cotton  Aluminum Futures

Very good diversification

The 3 months correlation between Cotton and Aluminum is -0.32. Overlapping area represents the amount of risk that can be diversified away by holding Cotton and Aluminum Futures in the same portfolio, assuming nothing else is changed. The correlation between historical prices or returns on Aluminum Futures and Cotton 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 Cotton are associated (or correlated) with Aluminum Futures. Values of the correlation coefficient range from -1 to +1, where. The correlation of zero (0) is possible when the price movement of Aluminum Futures has no effect on the direction of Cotton i.e., Cotton and Aluminum Futures go up and down completely randomly.

Pair Corralation between Cotton and Aluminum Futures

Assuming the 90 days horizon Cotton is expected to under-perform the Aluminum Futures. But the commodity apears to be less risky and, when comparing its historical volatility, Cotton is 1.18 times less risky than Aluminum Futures. The commodity trades about -0.14 of its potential returns per unit of risk. The Aluminum Futures is currently generating about 0.05 of returns per unit of risk over similar time horizon. If you would invest  256,200  in Aluminum Futures on November 28, 2024 and sell it today you would earn a total of  7,800  from holding Aluminum Futures or generate 3.04% return on investment over 90 days.

Time Period	3 Months [change]
Direction	Moves Against
Strength	Insignificant
Accuracy	98.41%
Values	Daily Returns

Cotton  vs.  Aluminum Futures

Cotton

Risk-Adjusted Performance

Very Weak

Over the last 90 days Cotton has generated negative risk-adjusted returns adding no value to investors with long positions. In spite of latest unsteady performance, the Commodity's basic indicators remain strong and the current disturbance on Wall Street may also be a sign of long term gains for Cotton investors.

Aluminum Futures

Risk-Adjusted Performance

Insignificant

Compared to the overall equity markets, risk-adjusted returns on investments in Aluminum Futures are ranked lower than 3 (%) of all global equities and portfolios over the last 90 days. In spite of rather sound forward indicators, Aluminum Futures is not utilizing all of its potentials. The latest stock price tumult, may contribute to shorter-term losses for the shareholders.

Pair Trading with Cotton and Aluminum Futures

The main advantage of trading using opposite Cotton and Aluminum Futures positions is that it hedges away some unsystematic risk. Because of two separate transactions, even if Cotton position performs unexpectedly, Aluminum Futures 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 Aluminum Futures will offset losses from the drop in Aluminum Futures' long position.

The idea behind Cotton and Aluminum Futures 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.

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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 Backtesting module to avoid under-diversification and over-optimization by backtesting your portfolios.