Correlation

Correlation expresses the degree to which 2 instruments move in the same direction. The bounds of correlation coefficient are 1 (perfect positive correlation), meaning that the 2 instruments will always move in the same direction, and -1 (perfect negative correlation), meaning that 2 instruments will always move in opposite directions. In real world, no 2 securities will be perfectly correlated (be it positively or negatively).

Where:
Cxy = Correlation between fund x’s returns and fund y’s returns
σxy = Covariance between fund x’s returns and fund y’s returns
σx = Standard Deviation of fund x’s returns
σy = Standard Deviation of fund y’s returns

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