Correlation Between Vanguard 500 and Small Capitalization

Can any of the company-specific risk be diversified away by investing in both Vanguard 500 and Small Capitalization 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 Vanguard 500 and Small Capitalization into the same portfolio, which is an essential part of the fundamental portfolio management process.

By analyzing existing cross correlation between Vanguard 500 Index and Small Capitalization Portfolio, you can compare the effects of market volatilities on Vanguard 500 and Small Capitalization 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 Vanguard 500 with a short position of Small Capitalization. Check out your portfolio center. Please also check ongoing floating volatility patterns of Vanguard 500 and Small Capitalization.

Diversification Opportunities for Vanguard 500 and Small Capitalization

0.8

Correlation Coefficient

Vanguard 500  Small Capitalization

Very poor diversification

The 3 months correlation between Vanguard and Small is 0.8. Overlapping area represents the amount of risk that can be diversified away by holding Vanguard 500 Index and Small Capitalization Portfolio in the same portfolio, assuming nothing else is changed. The correlation between historical prices or returns on Small Capitalization and Vanguard 500 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 Vanguard 500 Index are associated (or correlated) with Small Capitalization. Values of the correlation coefficient range from -1 to +1, where. The correlation of zero (0) is possible when the price movement of Small Capitalization has no effect on the direction of Vanguard 500 i.e., Vanguard 500 and Small Capitalization go up and down completely randomly.

Pair Corralation between Vanguard 500 and Small Capitalization

Assuming the 90 days horizon Vanguard 500 Index is expected to generate 0.82 times more return on investment than Small Capitalization. However, Vanguard 500 Index is 1.22 times less risky than Small Capitalization. It trades about -0.09 of its potential returns per unit of risk. Small Capitalization Portfolio is currently generating about -0.14 per unit of risk. If you would invest  54,504  in Vanguard 500 Index on December 29, 2024 and sell it today you would lose (3,022) from holding Vanguard 500 Index or give up 5.54% of portfolio value over 90 days.

Time Period	3 Months [change]
Direction	Moves Together
Strength	Strong
Accuracy	100.0%
Values	Daily Returns

Vanguard 500 Index  vs.  Small Capitalization Portfolio

Vanguard 500 Index

Risk-Adjusted Performance

Very Weak

Over the last 90 days Vanguard 500 Index has generated negative risk-adjusted returns adding no value to fund investors. In spite of fairly strong basic indicators, Vanguard 500 is not utilizing all of its potentials. The current stock price disturbance, may contribute to short-term losses for the investors.

Small Capitalization

Risk-Adjusted Performance

Very Weak

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

Pair Trading with Vanguard 500 and Small Capitalization

The main advantage of trading using opposite Vanguard 500 and Small Capitalization positions is that it hedges away some unsystematic risk. Because of two separate transactions, even if Vanguard 500 position performs unexpectedly, Small Capitalization 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 Small Capitalization will offset losses from the drop in Small Capitalization's long position.

The idea behind Vanguard 500 Index and Small Capitalization Portfolio 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 Diagnostics module to use generated alerts and portfolio events aggregator to diagnose current holdings.