Many pairs share a currency, so they move together. Correlation runs from +1 (identical) to −1 (mirror images).
Positive: move together
Negative: mirror images
Common pairs
| Pairs | Usually |
|---|---|
| EUR/USD & GBP/USD | Strong positive |
| EUR/USD & USD/CHF | Strong negative |
| AUD/USD & NZD/USD | Strong positive |
| AUD/USD & gold | Often positive |
The hidden risk
Long EUR/USD and long GBP/USD at 1% each is basically one 2% bet against the dollar. Long EUR/USD and long USD/CHF mostly cancels out.
Wick says
"I have five trades, so I'm diversified!" All five were short the dollar. They all lost together. That's not diversification, that's a boy band.
Key takeaways
- Correlation ranges from −1 to +1 and changes over time.
- Treat correlated positions as one big position.
- Check correlations before stacking trades.