Statistical correlations help analyze the relationship between different variables. They are of two kinds: positive correlations and negative correlations. In a positive correlation, the value of one variable increases with the value of the other. In a negative correlation, the value of one variable decreases as that of the other increases.
Named after its developer, Charles Spearman, the Spearman Rank Correlation is a technical analysis tool to determine the relationship between market trends and price changes.
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The Spearman Rank Correlation or the Spearman Coefficient is derived mathematically from the Spearman Indicator, and it is represented by ρ (rho). This coefficient determines the strength of the link between variables through a monotonic function.
This function in mathematics represents relationships between variables. A monotonic relationship exists if:
The rate of proportional increase or decrease in the variables does not have to be constant for it to be a monotonic function. The Spearman coefficient (p) has a range between +1 and -1. Three major inferences can be drawn from the range:
The Spearman indicator can be used to determine the relationship between two sets of sorted data. For instance, it can help us understand the link between datasets of stock price fluctuations and strong market trends. The coefficient is multiplied by 100, giving us a range between +100 and -100.
This ratio helps compare the volatility of an asset with an efficient price trend. If the value derived is above +80, it indicates a positive trend. If it's lower than -80, it presages a negative trend.
The Spearman indicator gives clear signals regarding buying and selling. Investors enter when a long-term Spearman indicator signals a positive trend. A short position should be captured when the long-term Spearman indicator signals a downward trend.
Traders should leave the long position when the Spearman indicator shows downward trends and a short position when it indicates an uptrend.
Stock prices fluctuate rapidly. That's where technical indicators come into play. The Spearman Indicator acts as a market oscillator and helps make trading decisions when no specific market trend emerges. However, as a trader, you must take trading decisions only after a thorough analysis, using a variety of indicators. This is probably your best bet to minimize trading losses.