Understanding the US dollar index (USDX)

If you are trading Forex for a month or so, you’ve probably came across with the term “US Dollar Index” or “USDX”. We all know what a dollar is - even kids know it. But a dollar index… well, not so popular, right? Let us break it up for you:

The US dollar index weighs the American currency against a basket of six major rivals: Euro (EUR), Yen (JPY), Pound (GBP), Canadian dollar (CAD), Krona (SEK) and Franc (CHF).

However, those 6 currencies do not represent the economies of 6 countries. Instead, of 24. That’s right. The euro stands for the 19 members of the European Union that have taken on that currency as their own, leaving their old ones behind.

The goal of the dollar index is to provide an idea of its value compared to a basket of competitors, which is a pretty similar concept as an stock index. This indicator helps market participants understand the global strength of the greenback.

Actually, just like we can trade stock indexes, you can also trade the US dollar index as a futures contract on the Intercontinental Exchange. ETFs, CFDs and options formats are also available.

In the list mentioned above, we’ve ordered currencies according to their weighs. Nope, we are not talking about kilos, but size of their respective countries and economies.

The euro and the yen take the biggest portion of it. And the rest just occupies around 30 percent. The euro indeed plays such a huge role in this index that any downturn will drag the index lower too.

Do you want to know more? Ok, here is the formula behind the USDX:

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)

Background

The US Federal Reserve launched the dollar index in 1973 as part of an effort to track the dollar’s value across the globe. President Nixon decided to move away from gold as a standard in that year, allowing the greenback to freely move in the world’s foreign exchange markets.