Dynamics of the dollar index. How to use the US dollar index in Forex trading? Using a synthetic rate

In the past, we were introduced to the dollar index. To summarize, we can once again emphasize that the American dollar has become a real world dominant, influencing a huge number of economic spheres.

And, of course, the foreign exchange market cannot stand aside. Today, it is around the USD that the classification of currency pairs traded on the Forex markets is formed. This means that based on its quotes, we can not only carry out short-term transactions, but also make fairly long-term, forward-looking forecasts. And if you consider that many national banknotes are tied specifically to the dollar, then the possibilities are completely limitless.

Index chart

In general, the index has been maintained since 1973. But a modern trader has no reason to raise such a layer of information. Popular charts, on average, show information for the last 20 years. Most often, a schedule of no more than 1 year is required.

This interactive chart is quite easy to read. You can use, for example, the online portal Investing, which shows a chart of the dollar against the euro, or an index futures contract in real time.

Such graphs should be read correctly. In order for this to be done easily, you need to pay attention to the time period shown by the portal. It is indicated at the bottom border of the window. The right side, most often, represents a gradation of cost, that is, quotes.

Advanced chart

The Investing portal also offers users an advanced chart. This is quite a useful tool for a trader. It differs in that it includes a number of tools for instant technical analysis.

This includes all popular indicators, but the most important thing is the news feed. It is displayed at interesting points on the chart, indicating why a jump occurred or the chart fell down.

Studying such a news flow is very useful for a trader, as it allows you to develop an analysis of events. Next time, similar news will already form in advance the concept in the trader’s mind of how it will be reflected on the movement of the chart. Thus, forecasts will become easier and more accurate.

Application

A trader is not always able to use the dollar index when trading a particular currency pair. But it is possible to try to use it during strong movements in commodity prices, but the correlation with them is more apparent than real.

If professional fund managers use this index to hedge some giant global indices, then it is unlikely to be useful to the average Forex trader. However, the dollar index is an instrument that can be traded on its own.

The same factors play a role for it as for the euro/dollar pair: changes in bond spreads, relative economic growth rates, important economic events. We can also add oil and gold prices to this list.

The US Dollar Index (USDX, DXY) is an index of the value of the US dollar compared to other currencies.

How is the US Dollar Index calculated?

The dollar index is the ratio of the US dollar (USD) to a basket of six foreign currencies and is a weighted average of the dollar relative to the euro (EUR), Japanese yen (JPY), pound sterling (GBP), Canadian dollar (CAD), Swedish krona (SEK) and Swiss franc (CHF).

Euro (EUR) - 57.6%

Japanese yen (JPY) - 13.6%

Pound Sterling (GBP) - 11.9%

Canadian dollar (CAD) - 9.1%

Swedish krona (SEK) - 4.2%

Swiss franc (CHF) - 3.6%

Thus, taking into account the presence of the euro in its composition, the dollar index contains currencies represented by 24 countries.

History of the US Dollar Index

The dollar index was created by JP Morgan in 1973 and has been updated only once since then, when Europe introduced the single European currency, the euro.

The base value of the index was taken to be 100 points. For example, a level of 107.5 points means that the value of the dollar has increased by 7.5% relative to its original historical value. March 1973 was chosen as the base period because from that time the major trading countries introduced floating exchange rates. This agreement was reached at a conference of the Smithsonian Institution in Washington. It replaced the unsuccessful policy of fixed currency rates established some 25 years earlier at Bretton Woods.

The index is updated 24 hours a day. Just as the Dow Jones Industrial Average (DJIA) is a leading indicator of the US stock market, the USDX Index provides an overall picture of the international value of the US dollar.

The maximum value was reached in 1985, when the rate rose above 150 pips. The minimum occurred at the peak of the 2008 crisis at around 71 pips.

How to Use the US Dollar Index to Confirm Trend Direction

Because the dollar index measures the value of a basket of currencies relative to the dollar, it gives a clearer picture of the dollar's strength or weakness than when you look at a single currency pair.

Many experienced traders look to the US Dollar Index before trading any currency pair to avoid trading against the underlying trend. But there is one drawback. The share of the euro is about 57.6%. This is a very significant value, so the degree of influence of the European currency on USDX is absolutely dominant.

How to trade the dollar index

The US Dollar Index is available for trading on all 5 working days of the week. USDX can be available in various forms. For example, active trading occurs in exchange-traded funds (ETFs). In addition, transactions are made using futures and options. The largest trading volume is concentrated on the Intercontinental Exchange (ICE).

There are two popular ETFs that instantly react to the strengthening or weakening of the US currency: UDN and UUP. The first of them involves working on a decline, that is, selling USDX futures, the second allows you to take long positions during growth, providing the opportunity to make money on an increase in the dollar index. These ETFs are traded on the NYSE Arca.

Finally

The USDX index can serve as both an independent trading tool and a kind of indicator that allows you to predict a change or continuation of a trend. This is important because the US dollar is the basis of all global financial trade and has a direct impact on the value of a huge number of different assets, forcing all investors large and small to take it into account.

BKS Express

In one of our articles about the Dow Jones stock index, we mentioned that this index is considered the main one for the stock market. But the Forex market has its own important index - the dollar index (USDX).

The importance of this tool is that it is excellent as an indicator of market sentiment in the foreign exchange market. The dollar index was adopted as the benchmark index for the six currencies in 1973, when most countries introduced floating exchange rates. Before this, many of them pursued a fixed monetary policy.

Although there are 6 currencies used in the calculation of the dollar index, each of them has a limited impact on it and is represented by a different percentage weight:

Therefore, as can be seen from the list, the euro has the greatest influence, and the Swiss franc the least.

The dollar index is calculated from a base value of 100.00. Since the beginning of the calculation, the index reached a maximum of 160.00 points, and during the crisis in March 2008 it fell below 72.00 points, losing 28% of its base value.

Despite the fact that the dollar index is an artificial index that is calculated online as a weighted average, it is also included in the list of financial instruments for Forex trading. This is because its exclusive exposure to a basket of world currencies makes it popular like the DJI stock index. Many traders use this tool to make money, or simply as an indicator by viewing the dollar index online in real time using a chart.

Dollar index USDX real time chart

Below is an online chart of the dollar index that can be used to analyze the forecast of future movements in USDX. This chart is broadcast in real time and without delay, which makes it universal for tracking online exchange rate changes.

The dollar index is a useful tool for objectively assessing the strength of the dollar. Futures contracts on the American Dollar Index (USDX), traded on the Intercontinental Exchange ICE (English Intercontinental Exchange - the largest exchange association in the world, which includes stock, futures, commodity exchanges, clearing companies), have long become the main indicator of the value of the American dollar, both internationally and in the financial media.

Currency traders, watching the movements of currency pairs that include the US dollar, often wonder whether these movements are due to the revaluation of foreign currencies (note the increase in the value of the national currency in relation to the currencies of other countries) or due to changes in the value of the US dollar .

To make it easier to answer this question, the exchanges and the Federal Reserve Bank have created two indices that reflect the value of the US dollar relative to a basket of foreign currencies. In both cases, these baskets contain the currencies of the United States' major trading partners.

The main focus of this material will be on the “narrow” American Dollar Index (USDX) or the Spot Dollar Index (DXY) traded on American exchanges under the ticker DX. However, we will also look at the “expanded” Trade-Weighted US Dollar Index (TWDI) published by the Federal Reserve Bank, since it is actively used by the US Federal Reserve to assess the value of the US dollar in relation to the currencies of the main US trading partners.

In this article:

Major US trading partners
What is the American Dollar Index (USDX)?
Currency basket of the American Dollar Index (USDX)
US Dollar Trade Weighted Index (TWDI)
Currency basket of the US Dollar Trade-Weighted Index (TWDI)
American Dollar Index Futures (USDX)

Major US trading partners

Since both of the most popular US Dollar Indexes are trade weighted, it makes sense first to find out which countries form the bulk of US foreign trade. This is due to the fact that the exchange rates of the main US trading partners are used in the calculation of the US Dollar Indices and are included in its composition.

It should be noted that some countries listed in this ranking, such as Germany, France, the Netherlands, Belgium and Italy, are part of the European Union trading bloc, which in turn appears in the ranking at number one. The total volume of trade between the United States and the rest of the world is indicated at the very beginning of the ranking for easy comparison of indicators.

This ranking indicates: position number, state or trade union, total trade volume, trade volume (net), export and import volume. Export and import volumes are based on US statistics.

Countries with scores lower than Chile are included in the Rest of Countries group (ranked 27th on the list).

What is the American Dollar Index (USDX)?

The US Dollar Index is the most famous and main index of the foreign exchange market, because thanks to it you can not only carry out financial transactions, but also predict the movement of other currencies. This important indicator of the relative value of the US dollar has existed since March 1973, when the base value of the index was set at 100 points. In other words, an index of 90 points today will mean a fall of the dollar relative to the 1973 figure by 10%, and an index of 120 points will mean an increase of 20%.

The American Dollar Index (USDX) became a very effective measure of the value of the paper dollar after the Bretton Woods system of fixed exchange rates effectively ceased to exist on March 16, 1973. This was led to by the Nixon Shock - a series of economic reforms carried out by US President Richard Nixon in 1971, the most significant of which was the US unilateral refusal to peg the US dollar to gold, which led to a virtual shutdown Bretton Woods system.

The American dollar index (USDX) was introduced in 1973, when, following the results of the Jamaican International Conference, floating rates of the currencies included in this index came into effect. Since then, the American Dollar Index (USDX) has been continuously calculated using foreign exchange trading data from the world's 500 largest banks.

A significant change in the methodology for calculating the American Dollar Index (USDX) occurred in 1999, when a single European currency, the euro, was introduced into circulation, replacing the national currencies of a number of European countries. Prior to this, the most significant element of the currency basket on which this index is calculated was the German mark.

Currency basket of the American Dollar Index (USDX)

The American Dollar Index (USDX) is calculated as a weighted geometric average of a basket of major world currencies. Each currency in this basket belongs to the group of 6 major US trading partners that are not equal in their economic capabilities, so each currency in the index is assigned a specific share of influence.

The main currency of the European Union countries has the greatest impact on the American Dollar Index (USDX): the ratio of the weight of the euro and other participants is 57.6%, which is reflected in the high correlation between the EUR and USDX quotes. The contribution of euro dynamics to the final value of the American Dollar Index (USDX) is so large that it could be called the “Anti-Euro Index”. Next comes Japan with the yen (13.6%), Great Britain with the pound (9.1%) and Canada with its dollar (9.1%). The weight of the currencies of Sweden and Switzerland is estimated more modestly - 4.2% and 3.6%, respectively.

At the moment, mathematically, the index formula looks like this:

USDX = 50.14348112 × EUR/USD^(-0.576) × USD/JPY^(0.136) × GBP/USD^(-0.119) × USD/CAD^(0.091) × USD/SEK^(0.042) × USD/CHF^ (0.036)

where the powers to which rates are raised correspond to the weight of currencies in the basket used.

The coefficient 50.14348112 brings the dollar index to a value of 100 if the exchange rates for March 1973, when the index was introduced, are substituted into the formula. Thus, the current American Dollar Index (USDX) reflects the change in the value of the US dollar against a basket of currencies compared to 1973 quotes. An index value of less than 100 points indicates a depreciation of the dollar, and more than 100 points indicates an increase in the value of the American currency compared to 1973.

Many traders and economists believe that the currency basket of the American Dollar Index (USDX) should be brought into line with the realities of the times. Indeed, today the United States is conducting more active foreign trade with China, South Korea, Mexico and Brazil and less actively trading with countries in the European region, such as Switzerland and Sweden. Today it is clear that the American Dollar Index (USDX) is strongly biased towards European currencies. The share of the Canadian dollar in it is significantly reduced, although Canada is a major trading partner of the United States, and the currencies of the Asia-Pacific region are completely ignored.

US Dollar Trade Weighted Index (TWDI)

Another important index known as the Trade Weighted U.S. Dollar Index (TWDI) has been calculated and published by the U.S. Federal Reserve Bank since 1998. The publication of this index occurs on a weekly basis, that is, the indicator for the previous week is published on Monday of the following week. It measures the value of the US dollar against a broader basket of 26 currencies. It predominantly includes the currencies of countries that are the main trading partners of the United States, although not all of them are industrial and financial leaders, and some even belong to the group of developing countries.

Since the composition of the basket of currencies used in calculating the US Dollar Trade-Weighted Index (TWDI) is not constant, and in addition, the weight of the currencies included in its basket changes periodically, the TWDI turns out to be unsuitable for technical market analysis. This index was created rather for the US monetary authorities with the aim of more accurately assessing the value of the US dollar, taking into account the prices of goods produced in the US, which are compared with the prices of similar goods in other countries.

Because of its more comprehensive nature, many economists believe that the Trade-Weighted Dollar Index (TWDI) is the primary measure of the value of the US dollar that ultimately has the greatest impact on the US economy. In addition, this expanded Trade-Weighted American Dollar Index is used by the US Federal Reserve to adjust monetary policy depending on the strength and weakness of the American national currency. Consequently, the TWDI Index has the greatest potential to influence the increase in US benchmark interest rates than the narrower US Dollar Index (USDX).

However, for short- and medium-term forecasting of the foreign exchange market, it is recommended to use the “narrow” American Dollar Index (USDX), since its values are calculated continuously, and not once a week, and can be easily presented graphically in the ATAS trading and analytical platform:

A 30-minute chart of the US Dollar Index futures (ticker DX) and several of the many other advanced volumetric market analysis indicators of the ATAS platform: Market Profiles, Volume and Delta

Currency basket of the US Dollar Trade-Weighted Index (TWDI)

The table below shows the basket of 26 currencies and their weights as of 2016, according to which the Federal Reserve Bank calculates the expanded value of the US dollar:

Please note that in the top table there is an asterisk after the names of some countries. This means that the currency of this country is included in the US Federal Reserve's Major Currencies Index (MCI). The absence of an asterisk means that the currency of this country is included in the sub-index “Other important trading partners” (OITP Index).

American Dollar Index Futures (USDX)

The dollar index, just like any stock index, can be used as a trading instrument. The futures contract is the most popular instrument for trading the American Dollar Index (USDX). With this derivative, market participants simultaneously invest in six of the world's most important currencies. The largest trading volume in futures contracts for the American Dollar Index (USDX) occurs on the Intercontinental Exchange (ICE), whose headquarters are located in Atlanta (USA).

The table below shows the specifications of the futures standard contract for the American Dollar Index (USDX):

Contract name	U.S. Dollar Index Futures
Ticker	DX
Trading period	Sun: 6:00 pm Eastern Time; New York: 20:00 - 17:00 the next day Eastern Time; London: 01:00 - 22:00; Singapore: 08:00 - 05:00 the next day *The trading platform is available for placing orders 30 minutes before the opening of trading (premarket)
Contract size	$1000 X index value
Minimum price step	0.005 index points
Cost per step	$5
Contract months	four months starting from March (H), June (M), September (U) and December (Z)

American Dollar Index (USDX) futures (ticker DX), priced across a basket of six currencies: the euro, Japanese yen, British pound, Canadian dollar, Swedish krona and Swiss franc, are available to traders and hedgers trading on the Intercontinental Exchange (ICE). . These futures are traded through the electronic platform of the Intercontinental Exchange (ICE) 21 hours a day, 5 days a week. The margin value for intraday trading is $500 per futures contract. The exchange margin for trading beyond one day is $1,463 per futures contract.

Official electronic trading on the Intercontinental Exchange (ICE) begins on Sunday at 18:00 and ends on Friday at 17:00 Eastern time. On weekdays, electronic trading runs from 8:00 pm to 5:00 pm the next day Eastern Time. In addition to official trading hours, the Intercontinental Exchange (ICE) allows 30 minutes each day before trading opens to place orders.

According to the terms of the contract, the size of one futures contract on the American Dollar Index (USDX) is determined by the formula: $1000 multiplied by the current index value. A peculiarity of the quotation of this index future is that it is nominated not in monetary terms (like stock futures), but in points (like the index itself) with an accuracy of three decimal places. This futures contract has no price restrictions, and the tick (the minimum price step of this futures) is 0.005.

Stay tuned for an article on the American Dollar Index (USDX). In it we will talk about the strange episode of the decline in the US dollar, as well as the use of the Index (USDX) in trading.

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Dollar Index Currency Basket

The dollar index includes the following 6 currencies:

(EUR) euro;
(YEN) yen;
(GBP) pound;
(CAD) Canadian dollar;
(SEK) Swedish krona;
(CHF) Swiss franc.

How many countries are included in the index? Like six? Wrong answer. Much more, because the euro is used as the national currency in as many as 19 EU countries. Let's add to this 5 more countries - Japan, Great Britain, Canada, Sweden and Switzerland and we get almost the entire rich civilized world.

Yes, China is missing, but their yuan is a specific currency, it never became the world’s reserve currency, and there is a special attitude towards it. As a result, DXY can be considered an excellent tool to show the global value of the dollar.

Geometric weighted average

That's what the dollar index really is. The countries included in the index are not equal in their economic capabilities. Therefore, each of them is allocated only its own share in the index, namely:

Considering that the Euro is 19 countries, the share of this currency is maximum. Then there is the Japanese price, since Japan is one of the largest economies on the planet.

Now the question is: what will happen to the index if the euro falls? Considering the share of the euro in the index, it can be considered an “anti-euro” index, which, by the way, cannot be called the most balanced option. Well, more on that a little later.

Studying the dollar index

It’s easy to open a chart of the dollar index, just enter the ticker in the live chart or TradingView chart DXY- and here he is, a handsome man on your screens. Another ticker for the index that you may come across is USDX. The index is calculated like currencies, 24 hours a day, 5 days a week. In this case, the calculation is carried out on a relative scale with an initial level of 100. How to understand this?

Let's assume the current index value is 96.95. This means that the dollar has fallen by 3.05% since the index was launched (100 - 96.95).

If the index value were 120, then the dollar has risen by 20% since the index was launched. When was it launched? It's been a long time since in March 1973. Then the presidents of all leading countries gathered in Washington and agreed that their currencies would be freely convertible into each other. This base period, as it is called, marked the beginning of financial globalization.

Dollar Index Formula

We don’t need it, because the graph calculates it automatically, but suddenly you’re wondering:

DXY = 50.14348112 ? EUR/USD^(-0.576) ? USD/JPY^(0.136) ? GBP/USD^(-0.119) ? USD/CAD^(0.091) ? USD/SEK^(0.042) ? USD/CHF^(0.036)

Trade-weighted dollar index

Remember, we said that the dollar index is not the only one, because it can be considered a kind of “anti-euro” index, given the share of the euro in it.

The Federal Reserve has something better, namely trade-weighted index(TWDI - Trade-Weighted Dollar Index). It was created to more accurately reflect the value of the dollar in relation to other national currencies, taking into account the competitiveness of American goods and services.

The index is quite recent, appearing in 1998. There are already many more currencies in it (there is also the yuan and even the ruble), and their share for 2016 looks like this:

The main difference between the two dollar indices is that their basket includes a different number of currencies. In the case of the index from the Federal Reserve, many more countries are represented in it and not all of them are industrial and financial leaders; there are many developing ones. So the TWDI index from the Fed is a more global reflection of the value of the dollar in relation to world currencies.

Moreover, the share of currencies is based on trade balance data, which is updated annually.

You can study the data directly on the Federal Reserve website http://www.federalreserve.gov/releases/H10/Weights/.
And here you can view historical summaries http://www.federalreserve.gov/releases/h10/Summary/.

In the latter case, you need to click on the link Daily: View or Monthly: View, depending on what you need, data by day or month (warning - the table with daily data is very, very long).

Finally, the TWDI trade-weighted index is also available on Tradingview's chart by ticker DTWEXM.

How to Use the DXY Dollar Index in Your Trading

Like a regular chart with averaged data, which we will analyze using technical and candlestick analysis methods. Of course, the index will be of main interest to those who work with the currencies it includes, namely:

EUR/USD;
GBP/USD;
USD/CHF;
USD/JPY;
USD/CAD.

All that the index gives us is a general idea of the strength or weakness of the dollar, because it can be regarded as a universal indicator. Don’t forget that the euro’s share in the index is more than 50%, so EUR/USD is the main patient here. If you need to evaluate the state of the dollar in all dollar pairs, the index is best suited for this.

This is the DXY chart (USDX on some charts):

And this is the euro/dollar chart:

How mirror image is it, right? One up, one down, very cute. Therefore, many constantly monitor DXY for not only coincidence, but also divergence from EUR/USD, because such a divergence can be considered, and we know very well how to use it.

If the DXY shows increased volatility, it will be reflected in other currencies in the index, a breakout of the p/c on one chart corresponds to a breakout on others.

Don’t forget where exactly the dollar is in your currency pair; it can be either the base or the quoted currency (remember the lesson).

If DXY strengthens and goes up (which means the dollar is strengthening), then the EUR/USD chart will go down.
On the contrary, for the USD/CHF pair, a strengthening dollar means a movement in the chart up.

It's easy to remember:

if the dollar is the base currency (the first in a currency pair, say USD/*), then the dollar index and the currency pair will move in the same direction;
if the dollar is the quoted currency (*/USD), then the index and the currency chart will go in different directions.

Examples from Tradingview, 1-week TF. EUR/USD chart:

DXY chart. If you look closely, you will see that the charts are mirrored, but not identical - there are significant discrepancies, different candles and different shapes. Traders learn to work on such divergences by studying the correlations in the movements of the EUR/USD and DXY candles. Sometimes the movement of DXY anticipates that of EUR/USD.

Dollar smile theory

The dollar is such a funny currency that it can strengthen in both bad and good economic conditions. As a result, one of the Morgan Stanley employees somehow came up with a fundamental theory that explains this phenomenon.

This was Stephen Jen, an economist and currency analyst. He developed this seemingly funny theory called the “dollar smile theory.” It implies that the US dollar, in all its diversity, always adheres to only three scenarios.

Scenario 1: Risk Avoidance

The first part of the smile implies a situation where investors are looking for a “safe haven” for their funds held in dollars or yen. Because investors believe the global economy is slowing down, they are hesitant to buy risky assets and prefer to invest in less risky dollar assets, even if the US economy is not performing particularly well. This is what is happening now.

Scenario 2: dollar falls

The dollar is falling strongly, renewing its minimum values. This bottom part of the smile indicates that the US economy is weak, as is its national currency. In this scenario, discount rates are often reduced, which can also affect the depreciation of the dollar.

As a result, the market gets rid of the dollar and the smile becomes wider.

Scenario 3: Everything comes back

The dollar is once again loved and respected thanks to economic growth in the US as investors see light at the end of the tunnel. There is more and more optimism, traders are starting to purchase dollar assets. The growth of US GDP, the expectation of an increase in key rates, all this adds optimism to investors.

This theory is well studied using the example of the crisis that erupted in 2008. At the very peak of the economic crisis, the dollar strengthened sharply - this is scenario 1, investors fled to a strong currency from the global fire. Then, in March 2009, investors switched to higher-yielding currencies and the dollar suffered a spectacular decline.

What happened next? A new rise in the dollar, which lasted until the summer of 2010, after which the cycle repeated. This theory is just a particular example of the fact that any price is cyclical and the currency of even such a strong country as the United States is prone to wave-like movement.

Index

The dollar index is a macroeconomic indicator. Used to assess the global state of the American currency on higher timeframes. It is used either as a complement to fundamental analysis, or to find discrepancies between the index and EURUSD on 1-day time frames and above.

By examining US inflation and economic performance, the index will add another variable to the equation and provide an opportunity to assess the global outlook for the US currency. That is why he is a frequent guest on the screens of professional currency traders and analysts.