What Is Positive Correlation?

A positive correlation is a relationship between two variables that move in tandem—that is, in the same direction. A positive correlation exists when one variable decreases as the other variable decreases, or one variable increases while the other increases. Because these two differ💞ent𓃲 variables move in the same direction, they theoretically are influenced by the same external forces.

Understanding Positive Correlation

A perfectly positive 澳洲幸运5官方开奖结果体彩网:correlation means that 100% of the time, the variables in question move together by the exact same percentage and direction. A positive correlation can be seen between the demand for a product and the product's associated price. In situations where the available supply stays the same, the price will rise if demand increases.

Additionally, gains or losses in certain markets may lead to similar movements in associated markets. A🌠s the price of fuel rises, the prices of airline tickets also rise. Since airplanes require fue𒈔l to operate, an increase in this cost is often passed to the consumer, leading to a positive correlation between fuel prices and airline ticket prices.

A positive correlation does not guarantee growth or benefi💃t. Instead, it is used to denote any two or more variables that move in the same direction to🐷gether, so when one increases, so does the other. The existence of a correlation does not necessarily indicate a causal relationship between variables.

Correlation is a form of dependency, where a shift in o🌼ne variable means a ch♓ange is likely in the other, or that certain known variables produce specific results. A general example can be seen within complementary product demand. If the demand for vehicles rises, so will the demand for vehicular-related products and services, such as tires. An increase in one area affects complementary industries.

In some situations, positive psychologic🍷al responses can cause positive changes within an area. This can be demonstrated within the financial markets, in cases where general positive news about a company leads to a higher stock price.

Measuring Positive Correlation

In statistics, a perfect positive correlation is represented by the correlation coefficient value +1.0, while 0 indicates no correlatio🦹n, and -1.0 indicates a p💫erfect inverse (negative) correlation.

Positive correlation may also be easily identified by graphically depicting a data set using a scatter plot. Each point on a scatter plot represents one sample item at the intersection of the x-axis variable and the y-axis ꦅvariable. A positive correlation on a scatt🥃er plot is evidenced by an upward-trending series of points that show that as the x-axis variable increases, so does the y-axis variable.

When statistically analyzing positive correlation, it is important to understand the dataset's p-value. P-value is the measurement of how statistically significant the findings are. In general, a lower p-value, typically 0.05 or less, indicates there is greater evidence that an o🦄bserved correlation isꦫ statistically significant and not due to random chance.

Positive Correlation in Finance

A simple 澳洲幸运5官方开奖结果体彩网:example of positive correlation involves the use🌊 of an interest-bearing savings account with a set interest rate. The more money that is added to the account, whether through new deposits or earned interest, the more interest that can be accrued. Similarly, a rise in the interest rate will correlate with a rise in interest generated, while a decrease in the interest rate causes a decrease in actual interest accrued.

Investors and analysts also look at how stock movements correlate with one another and with the broader market. Most stocks correlate with each other's price movements somewhere in the middle of the range, with a coefficient of 0 indicating no relationship whatsoever between the two securities.

A stock in the online retail space, for example, likely has little corre🔯lation with the stock of a tire and auto body shop, while two similar retail companies will see a higher correlation. This is because businesses that 𒁏have very different operations will produce different products and services using different inputs. Each of these companies faces different risks, opportunities, and operational challenges.

Positive Correlation and Diversification

澳洲幸运5官方开奖结果体彩网:Modern portfolio theory is heavily rooted in diversification, the concept that an investoꦯr should hold assets that are widely unrelated to reduce portfolio-wide risk. This flies in the face of positive correlation; investing theory usually states that investors should be wary of widespread positive correlation within their portfolio.

For most ♈investors, an ideal investing strategy is to avoid a positive correlation between assets and asset classes. Though every individual should evaluate their own investing strategy, holding assets with positive correlation ten൩ds to increase the risk of loss.

Beta and Correlation

Beta is a common measure of how correlated an individual stock's price is with the broader market, often using the S&P 500 index as a benchmark. If a stock has a beta of 🐟1.0, it indicates that its price activity is strongly correlated with the market.

A stock with a b🔥eta of 1.0 has a systematic risk, but the beta calculation can’t detect any unsystematic risk. Adding a stock to a portfolio with a beta of 1.0 doesn’t add any risk to the portfolio, but it also doesn’t increase the likelihood that the portfolio will provi꧃de an excess return.

A beta of less than 1.0 means that the security is theoretically less volatile than the market, meaning the portfolio is less risky with the stock included than without it. For example, utility stocks often have low betas because they tend to move more slowly than marke🍰t averages.

A beta that is greater than 1.0 indicates that the security's price is theoretically more volatile than the market. For example, if a stock's beta is 1.2, it is assumed to be 20% more volatile than the market. Technology stocks and small caps tend to have higher betas than the market benchmark. This indicates that adding the stock to a portfolio will increase the portfolio’s risk, but also increase its expected return.

Some stocks even have negative betas. A beta of -1.0 means that the stock is inversely correlated to the market benchmark as if it were an opposite, mirror image of the benchmark’s trends. Put options or𓄧 inverse ETFs are designed to have negative betas, but there are a few industry groups, like gold miners, where a negative beta is also common.

Positive Correlation vs. Negative Correlation

A negative correlation is sometimes described as an inverse correlation. In statistics, a positive correlation describes the relationship between two variables that change together, while an 澳洲幸运5官方开奖结果体彩网:inverse correlation describes the relationship between two vari😼ables that ไchange in opposing directions.

Examples of positive correlations occur in most people's daily lives. The more hours an employee works, for instance, the larger that employee's paycheck will be at the end of the week. The more money is spent on advertising, the more customers buy from the company.

Inverse corr🐈elations describe two factors that seesaw relative to each other. Examples include a declining bank balance relative to♏ increased spending habits and reduced gas mileage relative to increased average driving speed. One example of an inverse correlation in the world of investments is the relationship between stocks and bonds. In theory, as stock prices rise, the bond market tends to decline, just as the bond market does well when stocks are underperforming.

It is important to understand that correlation does not necessarily imply cauღsation. Variables A and B might rise and fall together, or A might rise as B falls, but it is not always true that the rise of one factor directly influences the rise or fall of the other. Both may be caused by an underlying third factor, such as commodity prices, or the apparent relationship between the variables might be a coincidence.

The number of people connected to the Internet, for example, has been increasing since its inception, and the price of oil has generally trended upward over the same period. This is a positive correlation, but the two factors almost certainly have no meaningful relationship. That both the population of Internet users and the price of oil have increased is explainable by a third factor, namely, general increases due to time.

The Bottom Line

When two variables move in tandem, the two variables are said to have a positive correlation. Though one variable may not directly influence the other, the two variables may at least change in the same direction. Investors trying to minimize 澳洲幸运5官方开奖结果体彩网:portfolio risk often try to shed a positive correlation through diversification; this is done by analyzing the correlation coeffic𓆉ient, beta, and other statistical measurements of each of the variables.🍷