# Correlation Between Russell 2000 and DOW

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Can any of the company-specific risk be diversified away by investing in both Russell 2000 and DOW 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 Russell 2000 and DOW into the same portfolio, which is an essential part of the fundamental portfolio management process.
By analyzing existing cross correlation between Russell 2000 and DOW, you can compare the effects of market volatilities on Russell 2000 and DOW 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 Russell 2000 with a short position of DOW. Check out your portfolio center. Please also check ongoing floating volatility patterns of Russell 2000 and DOW.

## Diversification Opportunities for Russell 2000 and DOW

 0.85 Correlation Coefficient

### Very poor diversification

The 3 months correlation between Russell and DOW is 0.85. Overlapping area represents the amount of risk that can be diversified away by holding Russell 2000 and DOW in the same portfolio, assuming nothing else is changed. The correlation between historical prices or returns on DOW and Russell 2000 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 Russell 2000 are associated (or correlated) with DOW. Values of the correlation coefficient range from -1 to +1, where. The correlation of zero (0) is possible when the price movement of DOW has no effect on the direction of Russell 2000 i.e., Russell 2000 and DOW go up and down completely randomly.

## Pair Corralation between Russell 2000 and DOW

Given the investment horizon of 90 days Russell 2000 is expected to generate 8.88 times less return on investment than DOW. In addition to that, Russell 2000 is 1.54 times more volatile than DOW. It trades about 0.0 of its total potential returns per unit of risk. DOW is currently generating about 0.03 per unit of volatility. If you would invest  3,017,388  in DOW on August 30, 2022 and sell it today you would earn a total of  367,558  from holding DOW or generate 12.18% return on investment over 90 days.
 Time Period 3 Months [change] Direction Moves Together Strength Strong Accuracy 100.0% Values Daily Returns

## Russell 2000   vs.  DOW

 Performance (%)
 Timeline

## Russell 2000 and DOW Volatility Contrast

 Predicted Return Density
 Returns

## Russell 2000

### Pair trading matchups for Russell 2000

 FTSE All-World vs. Russell 2000 Short-Term Govt vs. Russell 2000 High Yield vs. Russell 2000 SPDR Portfolio vs. Russell 2000 Invst Grade vs. Russell 2000 Russell 2500 vs. Russell 2000 Short-Term Bond vs. Russell 2000 Tidewater vs. Russell 2000 Total Stock vs. Russell 2000
The effect of pair diversification on risk is to reduce it, but we should note this doesn't apply to all risk types. When we trade pairs against Russell 2000 as a counterpart, there is always some inherent risk that will never be diversified away no matter what. This volatility limits the effect of tactical diversification using pair trading. Russell 2000's systematic risk is the inherent uncertainty of the entire market, and therefore cannot be mitigated even by pair-trading it against the equity that is not highly correlated to it. On the other hand, Russell 2000's unsystematic risk describes the types of risk that we can protect against, at least to some degree, by selecting a matching pair that is not perfectly correlated to Russell 2000 .

## DOW

### Pair trading matchups for DOW

 Invst Grade vs. DOW FTSE All-World vs. DOW Tidewater vs. DOW Diamond Offshore vs. DOW Russell 2500 vs. DOW Total Stock vs. DOW High Yield vs. DOW Short-Term Bond vs. DOW Short-Term Govt vs. DOW
The effect of pair diversification on risk is to reduce it, but we should note this doesn't apply to all risk types. When we trade pairs against DOW as a counterpart, there is always some inherent risk that will never be diversified away no matter what. This volatility limits the effect of tactical diversification using pair trading. DOW's systematic risk is the inherent uncertainty of the entire market, and therefore cannot be mitigated even by pair-trading it against the equity that is not highly correlated to it. On the other hand, DOW's unsystematic risk describes the types of risk that we can protect against, at least to some degree, by selecting a matching pair that is not perfectly correlated to DOW.

## Pair Trading with Russell 2000 and DOW

The main advantage of trading using opposite Russell 2000 and DOW positions is that it hedges away some unsystematic risk. Because of two separate transactions, even if Russell 2000 position performs unexpectedly, DOW 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 DOW will offset losses from the drop in DOW's long position.
The effect of pair diversification on risk is to reduce it, but we should note this doesn't apply to all risk types. When we trade pairs against Russell 2000 as a counterpart, there is always some inherent risk that will never be diversified away no matter what. This volatility limits the effect of tactical diversification using pair trading. Russell 2000's systematic risk is the inherent uncertainty of the entire market, and therefore cannot be mitigated even by pair-trading it against the equity that is not highly correlated to it. On the other hand, Russell 2000's unsystematic risk describes the types of risk that we can protect against, at least to some degree, by selecting a matching pair that is not perfectly correlated to Russell 2000 .
The idea behind Russell 2000 and DOW 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.
 Short-Term Govt vs. DOW High Yield vs. DOW Short-Term Bond vs. DOW FTSE All-World vs. DOW SPDR Portfolio vs. DOW Invst Grade vs. DOW Russell 2500 vs. DOW
The effect of pair diversification on risk is to reduce it, but we should note this doesn't apply to all risk types. When we trade pairs against DOW as a counterpart, there is always some inherent risk that will never be diversified away no matter what. This volatility limits the effect of tactical diversification using pair trading. DOW's systematic risk is the inherent uncertainty of the entire market, and therefore cannot be mitigated even by pair-trading it against the equity that is not highly correlated to it. On the other hand, DOW's unsystematic risk describes the types of risk that we can protect against, at least to some degree, by selecting a matching pair that is not perfectly correlated to DOW.
Check out your portfolio center. 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 Idea Optimizer module to use advanced portfolio builder with pre-computed micro ideas to build optimal portfolio .

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