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Autocorrelation definition

The name scares people off but the concept can be easy to grasp and has many uses.

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Autocorrelation, or serial correlation, is the correlation of one variable with itself over different time periods. This is important for testing whether stock returns behave like independent variables, which is an assumption of statistical tests of several important theories, including the Efficient Market Hypothesis (EMH).

To calculate autocorrelation for monthly returns with a 1-month lag, use nearly the same return stream except stagger the y-variable dependent variable by 1 month. In a basic 36-month example, the x-variable in the regression could go from Jan 2014-Dec 2016 and the y-variable would then go from Feb 2014-Jan 2017.

Synonym: serial correlation, cross correlation


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Quiz

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A possible economic justification for positive autocorrelation could be the tendency for investors to sell winners. | True or False?

False, performance chasing could result in positive autocorrelation

In a Sentence

Bud:  Hey Guy, nice chart, eh? Solid uptrend, nice doji, MACD, and strong momentum.
Guy:  You are the Technician, but technically, it looks like autocorrelation  to me.

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Keywords:
autocorrelation
serial correlation
cross correlation
single variable
multiple time periods
regression
assumption
Efficient Market Hypothesis
EMH
stocks