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In: Finance

Topic: Quantitative Methods for Finance - Is the following statements true or false? Explain the answer...

Topic: Quantitative Methods for Finance - Is the following statements true or false? Explain the answer briefly.

A correlation coefficient close to zero indicates the lack of dependence between two
variables.

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Expert Solution

Correlation coefficients are used to measure the strength of the relationship between two variables.
Correlation coefficient greater than zero indicates a positive relationship while a value less than zero signifies a negative relationship and a value of zero indicates no relationship between the two variables being compared.
Negative correlation, or inverse correlation, is a key concept in the creation of diversified portfolios that can better withstand portfolio volatility.

The possible range of values for the correlation coefficient is -1.0 to 1.0. In other words, the values cannot exceed 1.0 or be less than -1.0, and a correlation of -1.0 indicates a perfect negative correlation, and a correlation of 1.0 indicates a perfect positive correlation. Anytime the correlation coefficient is greater than zero, it's a positive relationship. Conversely, anytime the value is less than zero, it's a negative relationship. A value of zero indicates that there is no relationship between the two variables.

When two stocks, for example, move in the same direction, the correlation coefficient is positive. Conversely, when two stocks move in opposite directions, the correlation coefficient is negative.

If the correlation coefficient of two variables is zero, it signifies that there is no linear relationship between the variables. However, this is only for a linear relationship. It is possible that the variables have a strong curvilinear relationship. When the value of ρ is close to zero, generally between -0.1 and +0.1, the variables are said to have no linear relationship (or a very weak linear relationship).

jeff jeffy answered 1 year ago
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