How Can The Dollar Index Help In Forex Trading?

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At Orbex, we publish a video analysis on the US Dollar Index every week, accounting for both the technical and the fundamental events shaping the Forex markets.

Do you know what the US Dollar Index is and more importantly how can the US Dollar index be used in Forex trading? In this article, we outline the basics on the US Dollar Index and how Fx traders can use it when trading Forex.

What Exactly Is The US Dollar Index?

The US Dollar Index or DXY or USDX for short is a trade-weighted index of the US Dollar. It measures the value of the US Dollar relative to a basket of Forex currencies. These currencies are made up of the biggest Forex trading partners. In the basket of currencies, the US Dollar is measured against Euro*, Yen, the Canadian Dollar, the British Pound, the Swedish Krona and the Swiss Franc, in the order of the highest weight to the least.

Prior to the Euro, the US Dollar Index contained ten Forex currencies with the West German Mark, Italian Lira, French Franc, Dutch Guilder and the Belgian Franc.

The table below breaks down the above Forex currencies in terms of their weight.

The US Dollar Index value is compared to March 1973, when the major trading economies started to free float their currencies against the US Dollar. The index was available for Forex trading since September 1986 and is traded as futures and options up to today. Some FX brokers also allow for the US Dollar Index to be traded as a CFD.

The US Dollar Index is calculated in real-time from the index’s component currencies.

Types of US Dollar Index

There are different versions of the US Dollar Index floating around. The most popular of these all is the ICE US Dollar Index. Other versions include:

  • Wall Street Journal Dollar Index (BUXX): This version of the US Dollar Index tracks 16 Forex currencies based on the data provided by the Bank for International Settlements or BIS
  • Dow Jones Dollar Index (USDOLLAR): Also known as the USDOLLAR for short tracks the US Dollar against a basket of four currencies which are Euro, Yen, British Pound, and the Australian Dollar. The USDOLLAR is relatively new and started being used in January 2011 with a value of 10,000

The chart below shows a comparison of the Wall Street Journal Dollar Index and the US Dollar Index and (BUXX and DXY).

BUXX, DXY, USDOLLAR (Courtesy: WSJ.com)

Can The Dollar Index Help With Forex Trading?

Because the US Dollar Index is updated in real-time and reflects the currency moves against which it is compared to, technical analysis of the DXY can help FX traders to understand or at times see potential Forex trading opportunities that one might miss at times.

The biggest advantage of analyzing the DXY charts is the fact that because the Euro is weighted by over 50%, you can always make use of the DXY to confirm that of the EURUSD pair analysis, or vice versa.

The chart below shows the strong inverse correlation between the DXY and the EURUSD.

EURUSD v/s DXY (Courtesy: WSJ.com)

As you can see in the above Forex chart, by adding an additional element of analysis, FX traders would be able to grow more confident in their technical analysis, at least as far as the EURUSD is concerned.

To learn more on how you can combine the technical analysis of the US Dollar Index, read through the following past analysis of the DXY and how Forex charts were able to give a broad picture of the price action in EURUSD.

To access the US Dollar Index for charting purposes, Right-click on ‘Market Watch’ and open ‘Symbols’. Scroll to the USDIndex group to find the USDIndex in your Orbex account. Happy trading!

 

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