Correlation Between Stock Index and Asset Allocation

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

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

Diversification Opportunities for Stock Index and Asset Allocation

1.0

Correlation Coefficient

Stock Index  Asset Allocation

No risk reduction

The 3 months correlation between Stock and Asset is 1.0. Overlapping area represents the amount of risk that can be diversified away by holding Stock Index Fund and Asset Allocation Fund in the same portfolio, assuming nothing else is changed. The correlation between historical prices or returns on Asset Allocation and Stock Index 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 Stock Index Fund are associated (or correlated) with Asset Allocation. Values of the correlation coefficient range from -1 to +1, where. The correlation of zero (0) is possible when the price movement of Asset Allocation has no effect on the direction of Stock Index i.e., Stock Index and Asset Allocation go up and down completely randomly.

Pair Corralation between Stock Index and Asset Allocation

Assuming the 90 days horizon Stock Index Fund is expected to generate 1.54 times more return on investment than Asset Allocation. However, Stock Index is 1.54 times more volatile than Asset Allocation Fund. It trades about 0.39 of its potential returns per unit of risk. Asset Allocation Fund is currently generating about 0.4 per unit of risk. If you would invest  5,088  in Stock Index Fund on April 20, 2025 and sell it today you would earn a total of  1,139  from holding Stock Index Fund or generate 22.39% return on investment over 90 days.

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

Stock Index Fund  vs.  Asset Allocation Fund

Stock Index Fund

Risk-Adjusted Performance

Strong

Compared to the overall equity markets, risk-adjusted returns on investments in Stock Index Fund are ranked lower than 30 (%) of all funds and portfolios of funds over the last 90 days. In spite of fairly weak forward indicators, Stock Index showed solid returns over the last few months and may actually be approaching a breakup point.

Asset Allocation

Risk-Adjusted Performance

Very Strong

Compared to the overall equity markets, risk-adjusted returns on investments in Asset Allocation Fund are ranked lower than 31 (%) of all funds and portfolios of funds over the last 90 days. In spite of fairly weak basic indicators, Asset Allocation showed solid returns over the last few months and may actually be approaching a breakup point.

Pair Trading with Stock Index and Asset Allocation

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

The idea behind Stock Index Fund and Asset Allocation Fund 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 Volatility module to check portfolio volatility and analyze historical return density to properly model market risk.