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Eliminate counterproductive trading

Utilizing correlations can help you stay out of positions that will cancel each other out. As the previous table and example explains, we know that EUR/USD and USD/CHF move in the opposite direction 100%.

Opening a position long EUR/USD AND long USD/CHF is, then, pointless and sometimes expensive. In addition to paying for the spread twice, any movement in the price would take one pair up and the other down.

We want our hard work to pay off with something!

2. Leverage profits

…Or losses. You have the opportunity to double-up on positions to maximize profits. Again, let’s take at look at the 1 week EUR/USD and GBP/USD relationship from the previous example.

These two pairs have a strong positive correlation with GBP/USD following behind EUR/USD virtually step for step.

Opening a long position for each pair would, in effect, be like taking EUR/USD and doubling your position. You’d basically be making use of leverage! Mucho profit if all goes right and mucho losses if things go wrong!

3. Diversify risk

Understanding that correlations exist also allows you to use different currency pairs, but still leverage your point of view. Rather than trading a single currency pair all the time, you can spread your risk across two pairs that move the same way.

Pick pairs that have a strong to very strong correlation (around 0.7). For example, EUR/USD and GBP/USD tend to move together. The imperfect correlation between these two currency pairs gives you the opportunity to diversify which helps reduce your risk. Let’s say you’re bullish on USD.

Instead of opening two short positions of EUR/USD, you could short one EUR/USD and short one GBP/USD which would shield you from some risk and diversify your overall position.

In the event that the U.S. dollar sells off, the euro might be affected to a lesser extent than the pound.

Forex Currency Correlation Education
Forex Currency Correlation Education
Forex Currency Correlation Education
Forex Currency Correlation Education

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