# Correlation Between SP 500 and DOW

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Can any of the company-specific risk be diversified away by investing in both SP 500 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 SP 500 and DOW into the same portfolio, which is an essential part of the fundamental portfolio management process.
By analyzing existing cross correlation between SP 500 ETF and DOW, you can compare the effects of market volatilities on SP 500 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 SP 500 with a short position of DOW. Check out your portfolio center. Please also check ongoing floating volatility patterns of SP 500 and DOW.

## Diversification Opportunities for SP 500 and DOW

 0.99 Correlation Coefficient

### No risk reduction

The 3 months correlation between SP 500 and DOW is 0.99. Overlapping area represents the amount of risk that can be diversified away by holding SP 500 ETF and DOW in the same portfolio, assuming nothing else is changed. The correlation between historical prices or returns on DOW and SP 500 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 SP 500 ETF 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 SP 500 i.e., SP 500 and DOW go up and down completely randomly.

## Pair Corralation between SP 500 and DOW

Considering the 90-day investment horizon SP 500 ETF is expected to generate 1.23 times more return on investment than DOW. However, SP 500 is 1.23 times more volatile than DOW. It trades about 0.27 of its potential returns per unit of risk. DOW is currently generating about 0.28 per unit of risk. If you would invest  34,482  in SP 500 ETF on May 20, 2022 and sell it today you would earn a total of  4,770  from holding SP 500 ETF or generate 13.83% return on investment over 90 days.
 Time Period 3 Months [change] Direction Moves Together Strength Very Strong Accuracy 100.0% Values Daily Returns

## SP 500 ETF  vs.  DOW

 Performance (%)
 Timeline

## SP 500 and DOW Volatility Contrast

 Predicted Return Density
 Returns

## SP 500 ETF

### Pair trading matchups for SP 500

 Walker Dunlop vs. SP 500 JP Morgan vs. SP 500 Ford vs. SP 500 Schwab US vs. SP 500 Alibaba Group vs. SP 500 Salesforce vs. SP 500 Visa vs. SP 500 Vmware vs. SP 500 Citigroup vs. SP 500 Alps Clean vs. SP 500 Vici Properties vs. SP 500
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 SP 500 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. SP 500'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, SP 500'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 SP 500 ETF.

## DOW

### Pair trading matchups for DOW

 Ford vs. DOW JP Morgan vs. DOW Salesforce vs. DOW Global Clean vs. DOW Alps Clean vs. DOW Citigroup vs. DOW Twitter vs. DOW Walker Dunlop vs. DOW Vici Properties 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 SP 500 and DOW

The main advantage of trading using opposite SP 500 and DOW positions is that it hedges away some unsystematic risk. Because of two separate transactions, even if SP 500 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.

## SP 500 ETF

### Pair trading matchups for SP 500

 Ford vs. SP 500 SPDR SP vs. SP 500 JP Morgan vs. SP 500 Vmware vs. SP 500 Salesforce vs. SP 500 Citigroup vs. SP 500 Walker Dunlop vs. SP 500 GM vs. SP 500 Schwab US vs. SP 500 Vici Properties vs. SP 500 Alibaba Group vs. SP 500
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 SP 500 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. SP 500'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, SP 500'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 SP 500 ETF.
The idea behind SP 500 ETF 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.

## DOW

### Pair trading matchups for DOW

 Paypal Holdings vs. DOW Visa vs. DOW Global Clean vs. DOW Salesforce vs. DOW SP 500 vs. DOW Walker Dunlop vs. DOW Ford vs. DOW JP Morgan vs. DOW Vici Properties vs. DOW Citigroup vs. DOW Alps Clean vs. DOW Vmware 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 Content Syndication module to quickly integrate customizable finance content to your own investment portal.

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