Correlation

A measure of how two series move together, running from minus one to plus one.

Its role in portfolio construction is that combining assets with correlations below one produces a portfolio less volatile than the weighted average of its parts, which is the only free lunch in finance.

The problem is that correlations are not stable and they rise in exactly the conditions where diversification is needed. Assets that behaved independently for a decade move together in a crisis, because the marginal seller is selling everything.

Stress-period correlation is the number that matters. Average correlation is the number that gets quoted.