Three Shifting Correlations in the FX Market

There are three correlations involving the foreign currencies we bring to your attention: the decline in the euro's correlation with the S&P 500; the increased correlation between the euro and sterling; and the increased correlation between the Swiss franc and Japanese yen. 

Before turning to the analysis, a brief reminder of our methodology.  Investors are most interested in the correlation of returns rather than levels, and  to capture this, we run the correlations on the basis of the percentage change.  

Euro and S&P 500:  On a rolling 60-day basis, the correlation between the euro and the S&P 500 is at its lowest level since 2008 today, just below 0.08.  The most recent peak was in April, which was the last time it was above 0.50.  Recall it peaked near 0.85 in late 2011.  

As one would expect, the 30-day correlation is bit more volatile and is back into negative territory--signaling an inverse correlation of about -0.15.   Back in late May it had also briefly dipped into negative ground, the first time since 2008. 

Under conditions of a strong positive correlation it may have made sense for some investors to buy US stocks  and hedge in euros, but the weakening correlation warns against this strategy.   Separately, we note that the euro has been inversely correlated with the Dow Jones Stoxx 600 since late May.  That correlation stands near -0.20, having briefly approached -0.27 in late June.    The correlation had been mostly positive since the onset of the financial crisis, reaching a peak near 0.70 in late 2012.  We note that in the years before the crisis the correlation was mostly inverse.  

Euro and Sterling:  Earlier this year, it had appeared that sterling and the euro's correlation had broken down.  In early Q2, the 60-day correlation had fallen below 0.20.  It is now matching the high levels seen during the crisis near 0.80.  The 30-day correlation is near similar levels. 

Rarely has the correlation been stronger than it is now. We would be more inclined here to look for a decoupling; for the correlation to begin weakening.  This means it may be risky to be use them as proxies for each other even though it has been a fairly successful strategy over the past couple of months. 

Separately, we note that on a 60-day rolling basis, sterling is inversely correlated with the S&P 500.  It had briefly was inversely correlated this past April, for the first time since 2008 and now is slightly more inversely correlated than it was in April.  Sterling has been inversely correlated with the FTSE since the start of the year, also for the first time since 2008.  At -0.44, the inverse correlation today is the most since last 2006/early 2007. 

Swiss franc and Yen:  Since the spring, we have noted that the Swiss franc, which remains in the euro's orbit, was moving increasingly in tandem with the yen.    On a 60-day rolling basis, the correlation near 0.76 is the strongest since 2008.  The two were inversely correlated as recently as the end of Q1. 

To be sure, the franc is still more correlated with the euro at 0.88, but that relationship has been fairly stable since early last year.  In fact, since, early 2012, the 60-day correlation between the franc and the euro has moved between 0.73 and 0.99. It is the franc's increased correlation with the yen that stands out as a new development.