Why is it a dream of stock pickers to witness the Correlation dipping below 5-Year Average

What do you know about stock correlation? It refers to the measure of how the separate stocks are traded in relation to each other. For much of 2019, after the trade has been done in tandem, the movements of individual stocks have now started diverging sharply. On the other hand, the stock correlation has jumped to a 6-month low, as well as, below the 5-year average. That is an indication that macroeconomic tensions are relieving and other idiosyncratic factors of individual firms are now driving the stocks, an ideal environment for stock pickers, as per a story published on the Wall Street Journal.

The Chief Investment Officer, as well as, portfolio manager of equity at T. Rowe Price, John Linehan, passed a statement saying that it becomes more and more a market of a stock picker, where more heed is given to fundamentals.

The average three-month rolling correlation for individual stocks fell to 0.23 at the end of last week, nearly half of the level of 0.42 at the end of October, according to data from Goldman Sachs, per the Journal. The current level is below the five-year average of 0.30 and the lowest since May 10, right before stocks experienced a sharp selloff on fears of an escalating trade war.

Similarly, a story is being told if you pay a look at individual stock sectors. The average 3-month rolling correlation amongst the S&P 500’s 11 sectors dropped to a level of 0.56 from 0.81 at the end of last month. There was a dip in the sector correlation below 0.50 in the initial half of May prior to also rising amidst growing worldwide trade tensions.

If there is a correlation of 1.0, it means that stocks are trading in perfect unison, where if correlation comes out to be of 0.0 means there is not any relationship between the movements of individual stocks.