
Explanation:
A positive correlation between two factors indicates that they move in the same direction. In other words, when factor A increases in value, factor B is also likely to appreciate in value. This is because a positive correlation signifies a direct relationship between the two factors. The degree of correlation can vary, but the direction of the movement remains the same. For instance, a correlation of 1 means a perfect positive correlation, where every increase in factor A corresponds to an equal proportionate increase in factor B. On the other hand, a correlation of 0.5 would mean that for every unit increase in factor A, factor B increases by half a unit. Therefore, in the context of financial markets and forward contracts, a positive correlation between two factors can have significant implications for pricing and risk management strategies.
Choice A is incorrect. A positive correlation between two factors, such as factor A and factor B, does not mean that when one increases in value, the other depreciates. Instead, a positive correlation implies that both factors are likely to move in the same direction. Therefore, if factor A increases in value, factor B is also likely to increase.
Choice B is incorrect. This choice suggests an inverse relationship between the two factors which would be indicative of a negative correlation rather than a positive one. In a positive correlation scenario, if factor A decreases in value then it's expected that Factor B will also decrease.
Choice C is incorrect. The statement implies no relationship or zero correlation between Factor A and Factor B which contradicts with our premise of having a positive correlation between these two factors where they move together either upwards or downwards.
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Q.1521 Financial institutions determine the market values of forward contracts on the basis of some underlying pricing factors. These factors can include market interest rate, risk, and correlation, etc. Such factors can affect the price on the basis of their volatility and VaR percentage. What does the positive correlation between two factors - A and B - indicate?
A
It indicates that when factor A goes up in value, the value of factor B is likely to depreciate.
B
It indicates that when factor A goes down in value, the value of factor B is likely to appreciate.
C
It indicates that when factor A goes up in value, the value of factor B does remains unaffected.
D
It indicates that when factor A goes up in value, the value of factor B is likely to appreciate.