# How to calculate the contribution (%) of an asset to the global correlation of the portfolio?

I have a portfolio X with weights $w_i$. I am trying to find the contribution $\xi_i$ of asset $i$ to the total correlation $\rho_{XM}$ of the portfolio X to an index M. I can't find these contributions when I develop the correlation portfolio/index formula.

Obviously, the sum of all contributions must be equal to 100%, but the sum over all $i$ of the contributions times the asset/index correlation $\rho_{iM}$ , must be equal to the portfolio/index correlation $\rho_{XM}$.

Any ideas ?

Say the index is

$$X = \sum_{i=1}^n w_iX_i$$

and the variance is ${\rm Var}(X) = \sigma^2$ then obviously the covariance of the index with itself is $\sigma^2$ so

$${\rm Cov}\left(\sum_{i=1}^n w_i X_i, X\right) = \sum_{i=1}^n w_i{\rm Cov}(X_i,X) = \sigma^2$$

The correlation is the covariance divided by the square root of the produce of the variances, so dividing everything through by $\sigma^2$ you have

$$\sum_{i=1}^n w_i \frac{{\rm Cov}(X_i,X)}{\sigma^2} = 1$$

You might choose to consider the components of this sum the "contribution to the correlation" from each member of the index, i.e.

$$\xi_i = \frac{w_i}{\sigma^2}{\rm Cov}(X_i,X)$$

Noting that the covariance can be expressed in terms of the correlation, you also have

$$\xi_i = \frac{w_i\sigma_i}{\sigma} {\rm Corr}(X_i, X)$$

and finally, you could note that this is $w_i$ times the coefficient of regression of $X_i$ on $X$, commonly known as the beta, so you have

$$\xi_i = w_i\beta_i$$

It then becomes obvious that the $\xi_i$ must sum to one, since the average beta of the constituents to an index must be one.

• Thank you for this quick answer but, you didn't mention the portfolio, because I want to the deconstruction of the correlation of a portfolio with an index using assets of the portfolio. – AMguy Sep 21 '17 at 16:31
• Replace the word "index" with "portfolio" and the logic still holds. The fact that the $\xi_i$ sum to 1 has to do with the equation $\sum_{i=1}^n w_i \frac{{\rm Cov}(X_i,X)}{\sigma^2} = 1$, which is equivalent to saying $\sum \xi_i = 1$. – lebelinoz Sep 21 '17 at 21:39
• But I have to explain the correlation of the portfolio with an index, i.e to explain the contribution of each assets. – AMguy Sep 22 '17 at 14:53