Correlation coefficient: Difference between revisions
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== Meaning of Correlation coefficient == | |||
The correlation coefficient is a relative measure of the correlation between two variables. It measures the degree to which their values are interdependent. In other words, the extent to which changes in the value of one of the variables are associated with changes in the value of the other variable. | The correlation coefficient is a relative measure of the correlation between two variables. It measures the degree to which their values are interdependent. In other words, the extent to which changes in the value of one of the variables are associated with changes in the value of the other variable. | ||
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Mathematically, correlation coefficient is the covariance divided by the product of the standard deviations. | Mathematically, correlation coefficient is the covariance divided by the product of the standard deviations. | ||
Also known as the Coefficient of correlation. | |||
== Significance of Correlation coefficients == | |||
A correlation coefficient of -1 means perfect negative correlation. The two variables always move in opposite directions by a perfectly predictable proportionate amount. | A correlation coefficient of -1 means perfect negative correlation. The two variables always move in opposite directions by a perfectly predictable proportionate amount. | ||
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A correlation coefficient of +1 means perfect positive correlation. The two variables always move in the same direction by a perfectly predictable proportionate amount. | A correlation coefficient of +1 means perfect positive correlation. The two variables always move in the same direction by a perfectly predictable proportionate amount. | ||
== See also == | == See also == | ||
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* [[Rho]] | * [[Rho]] | ||
* [[Standard deviation]] | * [[Standard deviation]] | ||
[[Category:Financial_risk_management]] | |||
Revision as of 11:57, 17 August 2013
Meaning of Correlation coefficient
The correlation coefficient is a relative measure of the correlation between two variables. It measures the degree to which their values are interdependent. In other words, the extent to which changes in the value of one of the variables are associated with changes in the value of the other variable.
Correlation coefficients are widely used in portfolio diversification and hedging calculations.
Mathematically, correlation coefficient is the covariance divided by the product of the standard deviations.
Also known as the Coefficient of correlation.
Significance of Correlation coefficients
A correlation coefficient of -1 means perfect negative correlation. The two variables always move in opposite directions by a perfectly predictable proportionate amount.
A correlation coefficient of 0 means that there is no correlation between the values of the two variables. The variables are statistically independent.
A correlation coefficient of +1 means perfect positive correlation. The two variables always move in the same direction by a perfectly predictable proportionate amount.
