Correlational Research in Finance

 What is Correlational Research?

Correlational research examines the relationship or association between two or more variables without manipulating them. It does not establish causation but helps identify whether variables move together — either positively, negatively, or not at all.

 Key Characteristics of Correlational Research:

Feature

Description

No Manipulation

Variables are observed as they naturally occur.

Quantitative Analysis

Usually involves statistical tools (like Pearson’s correlation, regression).

Used in Real-world Settings

Especially useful in finance, where experiments are difficult to conduct.

Strength and Direction

Measures the strength (r value) and direction (positive/negative) of a relationship.

 Correlational Research in Finance: Examples

Research Question

Variables Involved

Statistical Method Used

Is there a relationship between interest rates and stock prices?

Interest rate (%) and stock market index (e.g., Nifty 50)

Pearson correlation, Time-series regression

Does inflation affect the performance of mutual funds?

Inflation rate (CPI) and mutual fund NAV returns

Correlation coefficient

What is the relationship between financial literacy and investment diversification?

Financial literacy score and number of investment types

Spearman rank correlation

Is there an association between company size and dividend payout?

Market capitalization and dividend payout ratio

Linear regression

Does GDP growth correlate with stock market returns?

Quarterly GDP growth (%) and Sensex returns (%)

Correlation matrix, Granger Causality (advanced)

 Example in Detail:

Title: A Study on the Relationship Between Inflation and Gold Prices in India

Objective:
To investigate whether there is a significant correlation between the Consumer Price Index (CPI) and Gold Prices over the last 10 years.

Hypothesis:

  • H₀ (Null Hypothesis): There is no correlation between inflation and gold prices.
  • H₁ (Alternative Hypothesis): There is a significant correlation between inflation and gold prices.

Method:

  • Data Source: RBI, World Gold Council
  • Tool: Pearson Correlation Coefficient (r)
  • Interpretation:
    • If r ≈ +1 → Strong positive correlation (as inflation rises, gold prices rise)
    • If r ≈ 0 → No correlation
    • If r ≈ -1 → Strong negative correlation

 Advantages of Correlational Research in Finance:

  • Identifies real-world patterns useful for forecasting and strategy.
  • Useful when experiments are impractical or unethical (e.g., can’t manipulate interest rates).
  • Facilitates predictive modeling in investment and risk management.

 Limitations:

  • Does not prove causation (correlation ≠ causation).
  • Confounding variables may affect the observed relationships.
  • May lead to spurious correlations if data is not carefully analyzed.

 Summary Table

Aspect

Description

Purpose

Identify relationships between variables

Variables

At least two (quantitative or ranked)

Common Tools

Pearson r, Spearman rho, Regression

Finance Applications

Investments, market trends, policy effects

Key Caution

Cannot infer direct cause-and-effect

 

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