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Correlation Portfolio Diversification

A Macro-Economic Study of Correlation between Tradeable Assets

It can be challenging to visualise the correlation between assets when you have a whole portfolio full of them. You can create a heatmap that shows all the assets in your portfolio and the correlation between them.

And in true Darwinex fashion, we’ve created a heatmap for 40 of the Darwinex platform assets. This heatmap gives us a high-level view of the correlation between this universe of tradeable assets at Darwinex.

It might look like some random NFT, but what this heatmap does is display the correlation between every asset in an easy to see manner. Using a heatmap in this way can help speed up asset selection when deciding on what to put in your portfolio.

Correlation is the enemy of Diversification.

It gives you a clear view of what combinations of assets are likely to provide good diversification benefit and which ones are likely to not. This extra clarity is essential because trading correlated assets can increase the risk on the portfolio.

What is Delta?

Delta is a mathematical term that simply means a change in value. In a previous post, we showed you how to calculate (r) and (R²), but we highlighted a flaw in this approach and showed you how to calculate (R²) using the Delta (the price change) instead, which is a much more robust way to calculate the correlation.

Using the heatmap, we can see the correlation between an FX major like GBPUSD and the FTSE index. Looking at the heatmap, we can quickly see that these have a correlation of 0.00036. This correlation would indicate that trading these two assets at the same time could provide us with diversification benefit.

Take a look at Martyn’s heap map. If you had to pick 2 FX pairs, a stock index and a commodity, what would you choose and why?

As always, answers on a postcard @darwinexchange

This post covers the correlation between assets. But there are three other techniques we’ve used previously. In the next episode, we take a look at the correlation between timeframes.

Brought to you by Darwinex: UK FCA Regulated Broker, Asset Manager & Trader Exchange where Traders can legally attract Investor Capital and charge Performance Fees.

Risk disclosure:
https://www.darwinex.com/legal/risk-disclaimer


Content Disclaimer: The contents of this video (and all other videos by the presenter) are for educational purposes only, and are not to be construed as financial and/or investment advice.

Benefits of Portfolio Diversification

Benefits of Portfolio Diversification | Using Multiple Asset Classes

So far in this series, we’ve talked about the benefits of portfolio diversification, what it is, market randomness and trying to protect against black swans.

Today we touch on another way to diversify your trading portfolio. This is to diversify across asset classes.

An asset class is a group of assets that have similar characteristics.

Examples of common assets classes are stocks and forex.

Examples of assets that make up these asset classes are Apple & Tesla (stocks), EURUSD and USDCAD (forex).

Potential benefits of portfolio diversification across different asset classes.

Each asset class will exhibit different behaviour, some of the time. By diversifying our portfolio across multiple asset classes, we can expect some assets to be going up, as others are coming down.

This can have a great benefit to the overall performance of the portfolio. If there is a crash in the stock market, you wouldn’t expect AUDJPY to fall off a cliff.

Similarly, if GBPCHF goes haywire, you wouldn’t expect it to negatively impact the S&P500.

Portfolio Diversification can help smooth out periods of drawdown and increase the risk-return ratio when using uncorrelated asset classes like in the examples above.

See how diversification benefits your portfolio on the Darwinex platform.

Darwinex provides a host of different metrics you can use to analyze various aspects of your portfolio.

For instance, under the assets and timeframes tab, it displays the percentage share each traded asset makes up of the portfolio.

These metrics can give valuable insight into the robustness of your portfolio.

Throughout this series, we have covered various insights into different ways of implementing diversification strategies into your trading strategy, both at a trade level and a portfolio level.

Diversifying across asset classes can be another great tool to utilize.

Yes, portfolio diversification is a tool. It’s a handy tool, but a tool nevertheless.

It’s up to the trader to decide if, when and where to use it.

When deciding upon which tools to use in your trading portfolio, always backtest to see what benefit it may provide.

Feel free to share some backtest comparisons of your undiversified and diversified returns on social with #darwinexchange.

Brought to you by Darwinex: UK FCA Regulated Broker, Asset Manager & Trader Exchange where Traders can legally attract Investor Capital and charge Performance Fees.

Risk disclosure:
https://www.darwinex.com/legal/risk-disclaimer


Content Disclaimer: The contents of this video (and all other videos by the presenter) are for educational purposes only, and are not to be construed as financial and/or investment advice.