## Understanding the US Dollar Index When Trading Forex

When discussing the Forex market, the important role of the dollar index cannot be overlooked—an essential analytical tool for professional forex traders. But what is the dollar index, and why is it considered a "compass" guiding investors?

## What Is the Dollar Index? Detailed Definition

**The US dollar strength index**, also known by the symbols USDX, DXY, or USD Index, represents the relative value of the US dollar compared to a basket of major currencies. This currency basket includes the currencies used in the United States' major trade relations.

When this index rises, it reflects that the US dollar is strengthening against other currencies in the global market. The USD Index is designed, maintained, and published by ICE (Intercontinental Exchange, Inc.).

### Composition of the USD Index Currency Basket

This index is calculated based on the weights of six major currencies:

- EUR (Euro): 57.6%
- JPY (Japanese Yen): 13.6%
- GBP (British Pound): 11.9%
- CAD (Canadian Dollar): 9.1%
- SEK (Swedish Krona): 4.2%
- CHF (Swiss Franc): 3.6%

### Development History of the Index

In 1973, after President Nixon abolished the gold standard allowing the dollar to be freely valued on the foreign exchange market, the Federal Reserve (FED) established this index. The initial base level was set at **100 points**.

Since then, the highest historical level recorded was 164.72 in February 1985, while the lowest was 70.70 in March 2008.

## Why Is the USD Index Important in Forex Trading

### Correlation With Currency Pairs

When the US dollar strengthens (the USD Index increases), this creates clear correlations with currency pairs:

**Inverse Correlation:**
- When the USD Index rises, the EUR/USD pair tends to fall. Investors sell EUR and buy USD, leading to a decrease in EUR/USD price.
- Similarly, gold (XAU/USD) also moves inversely to the USD Index. When the dollar weakens, investors shift to buying gold, causing gold prices to rise.

**Same Direction Correlation:**
- The USD/JPY pair moves in the same direction as the USD Index. When this index increases, USD/JPY also tends to rise.

### Application in Market Analysis

Analysts and traders use the USD Index to identify trends in commodity markets related to the dollar, such as gold, silver, and oil. By monitoring this index, they can make more accurate forecasts of currency pair price movements.

## How to Read and Use the USD Index

### Practical Example

Suppose on 20/09/2022, the Dollar Index closed at 105. Then on 21/09/2022, it rose to 108, meaning the US dollar has strengthened by 2.85% against the basket of major currencies compared to the previous day.

Conversely, if the index drops to 103, it indicates the US dollar has weakened by 0.97% against that same basket.

### Calculation Formula for USDX

This index is calculated using the formula:

USDX = 50.14348112 × EURUSD^(-0.576) × USDJPY^(0.136) × GBPUSD^(-0.19) × USDCAD^(0.091) × USDSEK^(0.042) × USDCHF^(0.036)

When the dollar is the base currency, each currency is multiplied by a positive weight; when the dollar is the quote currency, the weight is negative.

## Related Concepts to the USD Index

**Currency Basket:** A collection of multiple foreign currencies, each with different weights. Currently, the Euro has the highest weight, accounting for nearly 58% of the basket.

**Broad Index of the US Dollar Based on Trade Weights (Broad Index):** Created by the FED in 1998, this index includes currencies from 26 countries and regions, with annual changing weights. It provides a more comprehensive view of the dollar's strength compared to the USDX.

**Note on Digital Currency USDX:** Do not confuse the USD Index with the digital currency USDX developed by Lighthouse on the blockchain. Although the symbols are similar, they are two completely different concepts.

## Trading the USD Index on Platforms

To leverage USD Index fluctuations in Forex trading, investors can monitor real-time price charts and open demo accounts on reputable forex trading platforms. These platforms provide access to currency pairs such as USD/JPY, EUR/USD, GBP/USD, and AUD/USD, along with continuously updated economic calendars.

When the dollar index enters an upward trend, long positions on the dollar become safer. Closely tracking this index's movements is key to forecasting the next trend and executing effective trades.

## Conclusion

The USD Index plays an essential role as an analytical tool in Forex trading. Understanding how the dollar index works, its structure, and its correlation with currency pairs will help investors and traders make more accurate decisions. By combining this index with other strategies, you can optimize your trading opportunities in the global forex market.