Binary Option Trading Correlation Strategy combines other strategies stressing the fact that it is a secondary and complementary strategy. There is a strong correlation between some assets that includes the prices of expensive metals such as gold and silver. There are two types of correlations i.e. positive and negative correlations. We see quite often that the prices of the correlated assets rise and fall concurrently and unidirectional. For example, the Euro and Swiss Franc frequently trend in identical directions. It is termed as the positive correlation. There are several negative correlations too, where the price of two assets moves in opposite directions. Markets do not always trend in the same direction irrespective of currencies, indexes or raw materials.
Binary Option Correlation Strategy
Correlation Strategy is considered as pone of the most important strategies for finding entry points for making trades. There are certain assets in the binary options market that share correlations with other assets. This correlation helps in predicting the movement of one asset based on the performance of the other correlated asset. It solely depends on the proficiency of the traders to recognise the trends, establish the correlation, and trade successfully. Correlation indicates the similarities between the performances and the overall trends of the two datasets. The stronger the correspondence between the two assets, the better is the probability that a system will perform adequately in analyzing and predicting the market trends.
Certain assets in the binary options market share correlations with other assets and market occurrences, making it possible to predict the movement of one asset based on the performance of its correlated asset or event.
Examples of Correlated Assets
The following assets are seen to be closely correlated, and so will present correlation-based trading opportunities in the binary options market.
- China and the AUDUSD
- AUDUSD and Copper
- EURUSD and Crude Oil
- Gold and Inflation
- Sovereign Debt and Currencies
A new kind of binary options has been recently launched in the market, called as the pair options. Its purpose is to exploit the benefits of correlation. Pair options enable the traders to appreciate on the relative performance of correlated assets. It activates one of the trades and enables the traders to know about the other. These pair options allow the traders to construct viable strategies to maximise the profits. The estimate of the correlation is based on a particular period and exposes the direction and degree to which two variables are associated. It is important to remember that this relationship changes over time imposing a substantial need for the traders to review their strategies regularly.
Correlation Coefficient Strategy
These strategies are based on the concept of correlation. In this strategy, the traders need to appreciate the movements in the direction of the highly correlated assets. Once, the trends are recognised, and the traders can gain immense success over trade. These strategies also provide the opportunities to profits in trade irrespective of the ad direction of advancement of the market i.e. upwards, downwards or sideways. In strict terms, correlation quantifies and monitors the degree by which the first asset advances on the other. The scale of the coefficient of correlation ranges for -1 to +1. A positive correlation is identified by the positive coefficient whereas the negative correlation is determined by a negative coefficient. As the correlation declines to zero, it should be noted that the directional price movements of the assets have become less oriented. Correlation readings are only considered significant if the value of the coefficient ranges between -0.7 to +0.7. The values that lie outside this range indicates less relevance as they are not strong enough correlations to take important trading decisions.
What Is the Correlation Strategy?
The correlation strategy is a binary options trading strategy in which traders look for assets with correlating data. There are three different types of correlations most traders look for. Those include…
- Product Correlation – With this strategy, traders look for products or news that ties two assets together. For instance, a cell phone manufacturer may give exclusive rights for their phone to a cell phone provider for a specific period of time. In this case, both the manufacturer and the provider would experience notable changes in their value.
- News Correlation – Often times, big news will focus on multiple assets. For instance, there may be a class action law suit against several cell phone providers for misrepresented billing. In this case, all providers would most likely lose value.
- Asset Correlation – Finally, we have asset correlation. This is when the movements in the value of multiple assets generally correlate with each other. For instance, currencies that are backed in large by commodities like gold will generally fluctuate as the backing commodity does. So, if a currency is backed in large by gold, when the value of gold goes down, you can predict that the value of the currency will follow.
Many assets are closely correlated. Some of them have been described below:
AUD/USD and Copper
This is a prime example of correlation between currency, commodity, and an economy. It is because China is the largest buyer of Australian copper. This correlation is a positive one. It provides an alternative to the traders to opt for copper binaries if they are not interested in trading the AUDUSD. It is advised for the traders to look for the close correlation between AUDUSD, copper and the Shanghai Index, and the occasions when this relationship disintegrates too.
Gold and Inflation
Gold has always been considered as a safe asset in times of economic crisis or when the traders are in the mode of capital preservation. In cases of elongated depletion of capital, the traders trade in gold. It is advised to trade gold as a correlated asset to inflation. In this way, gold can be used as a hedge against inflation. Australia is the world’s largest producer and exporter of gold, so its currency shares a positive correlation with gold. Australia is the world’s largest producer and exporter of gold, so its currency shares a positive correlation with gold. It is a fact to understand that the gold and the USD are inversely correlated.
EUR/USD and Crude Oil
USD exhibits an inverse relationship with crude oil, and the EURUSD represents one great way to trade this correlation. The price of crude oil is determined by forces of supply and demand. The demand for crude oil is determined by growth. Expanding industries require more crude oil and its derivatives. Supply is determined by the shares set by the producers. The USD is negatively affected by the higher oil prices as the United States is an overall importer of crude oil. Weakening in the oil prices implies the lesser amount being spent by the nation leading in the reduction of the trade deficit. This event is a USD positive event. The traders should opt for a CALL option on the USDCAD or a PUT option on the EURUSD if there is weakening the oil prices. Similarly, they should opt for a PUT option on the USDCAD or CALL option on the EURUSD if the oil prices strengthen.
China and the AUD/USD
China dominates the production in the world with over 40% of its share. The country with such a substantial production imports raw materials from a country that has abundant raw materials and shares proximity with it. Australia satisfies these two criteria and is the biggest trade partner of China. This relates the increased economic growth of China with the growth of the export sector of Australia on a large scale. A negative impact on the Australian economy is also seen with the downfall of the economic growth of China. This establishes a positive correlation between China and the AUDUSD.
Sovereign Debt and Currencies
The formulation of the Euro is an example of the sovereign debt crises witnessed in Ireland, Greece, Portugal and Spain. It shows a strong correlation between credit ratings, sovereign debt, and the value of the involved currencies. Credit ratings are assigned by three principal credit rating companies that are Moody’s, Fitch and Standards, and Poor (S&P). These ratings signify the ability of the creditor nations to repay the loans taken as sovereign debt. If deficits rise to unsustainable levels, it creates the possibility of a credit rating to downgrade and have dampening effects on the currency of that country. Binary options traders should look at the emerging correlation between the value of a currency and the sovereign debt and trade accordingly.
Advantages and Disadvantages
Correlations can be a complex statistical topic, but hopefully this introduction gets you familiarized enough with the concepts to do a bit of homework on your own as well. Check correlations studies frequently to be aware of relationships between forex pairs which may be affecting your trading. Use the correlation data to control risk, find opportunities and filter trades.
An advantage of the correlation strategy is that the traders make predictions about the trends when we recognize the relationships. In the case of correlation between two assets, the prediction of one based on the other can be done easily. This strategy applies to almost all types of financial assets. It becomes a very efficient strategy when the traders use it with two accounts instead of one. Correlation generates important values that help to predict the price relationships between assets eventually assisting them in real trade. This strategy immensely helps the traders to identify associations between assets, determine the direction of this relationship, and execute trades based on the data represented.
The correlation strategy possesses the ability to identify new trading opportunities by determining the deviation of two closely associated trades. The correlation coefficient strategy can also be used when the trader considers another major indicator as a verification tool. Most of the correlations are fundamentally based. It allows the traders to get a long-term direction on the assets that they expect to trade based on these correlations, and look for viable trade entry spots to benefit from them.
The Bottom line
It can be seen that most of the correlations are fundamentally based. This allows traders to get a long-term direction on the asset that they intend to trade based on these correlations, and look for possible trade entry spots to profit from them. This strategy is not an independent one, so it cannot be used as an independent tool to analyse and trade. The traders have to use other methods and tools to support correlation even though it is a secondary strategy. Once the trader learns how to use it correctly, it is expected to produce a success rate of 90%. It is very difficult to comment on the producibility and effectiveness of any strategy as it solely depends upon the ability of a trader to exploit it positively. A sincere and a patient trader always will find correlation strategy as one of the most useful tools to maximise their profits in binary options trade.
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