Thursday, October 27, 2011

Correlation doesn't mean easy prediction

Chart: WIG20 futures vs S&P500 futures over 10 years, stooq.com

The Polish and the US stock markets are undeniably connected, which is visible on the above chart, showing performance of the WIG20 futures against the S&P500 futures over 10 years (the realized correlation over the period is 0.7091).

However it doesn't mean that you can use this connection to predict short time price movements - the correlation between previous day change in the S&P500 futures and the current day WIG20 futures change is just 0.1380.

Since for the gaps between the closing on the previous day and the opening on the current you are unable to "catch" the whole daily change of the WIG20, the better value to compare is the change from the opening till close. In this case, the correlation with S&P500 futures changes to -0.1273 (minus).

> fw20c[1:10,]
         Date Open High  Low Close Volume OpenInt     D_Change     OC_Change
3  2000-01-05 1827 1839 1807  1811   5172    4694 -0.019683522 -0.0087960985
4  2000-01-06 1802 1849 1784  1848   5220    4801  0.020224794  0.0252068140
5  2000-01-07 1936 1998 1935  1982   5671    4918  0.070002463  0.0234824471
7  2000-01-11 2010 2070 1950  2042   5990    5622 -0.020359404  0.0157949977
8  2000-01-12 2015 2044 2010  2030   4312    5917 -0.005893927  0.0074165977
9  2000-01-13 2110 2148 2093  2135   5174    6033  0.050430854  0.0117786992
10 2000-01-14 2080 2137 2075  2115   5024    5716 -0.009411834  0.0166869188
13 2000-01-19 2035 2044 2005  2036   5719    5936 -0.005388208  0.0004912798
14 2000-01-20 2058 2068 2007  2053   5975    5839  0.008315039 -0.0024324994
15 2000-01-21 2043 2077 2043  2071   3672    6266  0.008729444  0.0136122666
(...)
> esfc[1:10,]
         Date    Open    High     Low   Close Volume OpenInt     D_Change
2  2000-01-04 1467.00 1468.75 1409.50 1411.75  61942   13967 -0.038218999
3  2000-01-05 1411.50 1427.25 1385.00 1413.50  64049   13007  0.001238829
4  2000-01-06 1411.00 1426.25 1395.75 1404.00  73127   13870 -0.006743593
6  2000-01-10 1459.75 1481.00 1455.25 1475.00  60548   15339  0.009879147
7  2000-01-11 1473.75 1475.00 1447.00 1454.25  59343   16080 -0.014167686
8  2000-01-12 1453.50 1459.50 1438.75 1442.00  70097   16982 -0.008459265
9  2000-01-13 1441.50 1466.75 1441.25 1458.50  62509   16832  0.011377471
11 2000-01-18 1478.00 1480.25 1462.00 1469.50  57421   16106 -0.005767616
12 2000-01-19 1468.75 1474.00 1450.25 1472.50  65454   16859  0.002039430
13 2000-01-20 1472.75 1485.00 1448.00 1457.00  57788   18126 -0.010582109
(...)
> cor(esfc$D_Change,fw20c$D_Change)
[1] 0.1380338
> cor(esfc$D_Change,fw20c$OC_Change)
[1] -0.1273032
> cor(fw20c$D_Change,fw20c$OC_Change)
[1] 0.8551321



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