Correlation Between Energy Services and Basic Materials

Can any of the company-specific risk be diversified away by investing in both Energy Services and Basic Materials at the same time? Although using a correlation coefficient on its own may not help to predict future stock returns, this module helps to understand the diversifiable risk of combining Energy Services and Basic Materials into the same portfolio, which is an essential part of the fundamental portfolio management process.

By analyzing existing cross correlation between Energy Services Fund and Basic Materials Fund, you can compare the effects of market volatilities on Energy Services and Basic Materials and check how they will diversify away market risk if combined in the same portfolio for a given time horizon. You can also utilize pair trading strategies of matching a long position in Energy Services with a short position of Basic Materials. Check out your portfolio center. Please also check ongoing floating volatility patterns of Energy Services and Basic Materials.

Diversification Opportunities for Energy Services and Basic Materials

0.4

Correlation Coefficient

Energy Services  Basic Materials

Very weak diversification

The 3 months correlation between Energy and Basic is 0.4. Overlapping area represents the amount of risk that can be diversified away by holding Energy Services Fund and Basic Materials Fund in the same portfolio, assuming nothing else is changed. The correlation between historical prices or returns on Basic Materials and Energy Services is a relative statistical measure of the degree to which these equity instruments tend to move together. The correlation coefficient measures the extent to which returns on Energy Services Fund are associated (or correlated) with Basic Materials. Values of the correlation coefficient range from -1 to +1, where. The correlation of zero (0) is possible when the price movement of Basic Materials has no effect on the direction of Energy Services i.e., Energy Services and Basic Materials go up and down completely randomly.

Pair Corralation between Energy Services and Basic Materials

Assuming the 90 days horizon Energy Services Fund is expected to generate 0.62 times more return on investment than Basic Materials. However, Energy Services Fund is 1.61 times less risky than Basic Materials. It trades about -0.02 of its potential returns per unit of risk. Basic Materials Fund is currently generating about -0.1 per unit of risk. If you would invest  17,590  in Energy Services Fund on September 26, 2024 and sell it today you would lose (514.00) from holding Energy Services Fund or give up 2.92% of portfolio value over 90 days.

Time Period	3 Months [change]
Direction	Moves Together
Strength	Weak
Accuracy	100.0%
Values	Daily Returns

Energy Services Fund  vs.  Basic Materials Fund

Energy Services

Risk-Adjusted Performance

0 of 100

Very Weak

Over the last 90 days Energy Services Fund has generated negative risk-adjusted returns adding no value to fund investors. In spite of fairly strong fundamental indicators, Energy Services is not utilizing all of its potentials. The current stock price disturbance, may contribute to short-term losses for the investors.

Basic Materials

Risk-Adjusted Performance

0 of 100

Very Weak

Over the last 90 days Basic Materials Fund has generated negative risk-adjusted returns adding no value to fund investors. In spite of weak performance in the last few months, the Fund's primary indicators remain fairly strong which may send shares a bit higher in January 2025. The current disturbance may also be a sign of long term up-swing for the fund investors.

Pair Trading with Energy Services and Basic Materials

The main advantage of trading using opposite Energy Services and Basic Materials positions is that it hedges away some unsystematic risk. Because of two separate transactions, even if Energy Services position performs unexpectedly, Basic Materials can make up some of the losses. Pair trading also minimizes risk from directional movements in the market. For example, if an entire industry or sector drops because of unexpected headlines, the short position in Basic Materials will offset losses from the drop in Basic Materials' long position.

The idea behind Energy Services Fund and Basic Materials Fund pairs trading is to make the combined position market-neutral, meaning the overall market's direction will not affect its win or loss (or potential downside or upside). This can be achieved by designing a pairs trade with two highly correlated stocks or equities that operate in a similar space or sector, making it possible to obtain profits through simple and relatively low-risk investment.

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Note that this page's information should be used as a complementary analysis to find the right mix of equity instruments to add to your existing portfolios or create a brand new portfolio. You can also try the Risk-Return Analysis module to view associations between returns expected from investment and the risk you assume.