Correlation Between NYSE Composite and Large Cap

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

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

Diversification Opportunities for NYSE Composite and Large Cap

0.8

Correlation Coefficient

NYSE Composite  Large Cap

Very poor diversification

The 3 months correlation between NYSE and Large is 0.8. Overlapping area represents the amount of risk that can be diversified away by holding NYSE Composite and Large Cap Equity in the same portfolio, assuming nothing else is changed. The correlation between historical prices or returns on Large Cap Equity and NYSE Composite 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 NYSE Composite are associated (or correlated) with Large Cap. Values of the correlation coefficient range from -1 to +1, where. The correlation of zero (0) is possible when the price movement of Large Cap Equity has no effect on the direction of NYSE Composite i.e., NYSE Composite and Large Cap go up and down completely randomly.

Pair Corralation between NYSE Composite and Large Cap

Assuming the 90 days trading horizon NYSE Composite is expected to under-perform the Large Cap. But the index apears to be less risky and, when comparing its historical volatility, NYSE Composite is 1.2 times less risky than Large Cap. The index trades about -0.24 of its potential returns per unit of risk. The Large Cap Equity is currently generating about -0.03 of returns per unit of risk over similar time horizon. If you would invest  2,695  in Large Cap Equity on September 19, 2024 and sell it today you would lose (18.00) from holding Large Cap Equity or give up 0.67% of portfolio value over 90 days.

Time Period	3 Months [change]
Direction	Moves Together
Strength	Strong
Accuracy	95.45%
Values	Daily Returns

NYSE Composite  vs.  Large Cap Equity

Pair Trading with NYSE Composite and Large Cap

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

The idea behind NYSE Composite and Large Cap Equity 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 Fundamentals Comparison module to compare fundamentals across multiple equities to find investing opportunities.