Traders seeking a gauge of the value of the US dollar against a basket of currencies used by US trading partners use the the US Dollar Index, also known as known as DXY, USDX or USDOLLAR. This index measures the dollar's value in dealing with six foreign currencies, as determined by their exchange rates. If the US dollar strengthens against these currencies, the index rises; if the US dollar weakens against these currencies, the index falls.
The specific investment product can be traded on the eToro platform. It may seem like a lot of work to trade for a beginner but we've put together this guide that explains all the critical details that you need to know so continue reading this article for you to learn how to invest on this index.
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History of the US Dollar Index
In 1973, the Federal Reserve established an official index (DXY) to measure the dollar's value, which is still in use today. However, in 1971, after President Nixon abandoned the gold standard, it enabled the dollar's value to float freely in the world's foreign currency markets, tracking the dollar's value with specific other currencies. The dollar's value fluctuates continuously in response to changes in the value of current foreign exchange trading.
The dollar index starts at 100. Since the index's inception, it has tracked the percent change in the dollar's value relative to its base value. It achieved an all-time high of 163.83 on March 5, 1985. Its all-time low of 71.58 on April 22, 2008, was a 28.4 percent decrease from the price it began.
How is the US Dollar Index Calculated?
Calculating the US Dollar index takes the exchange rate of six major world currencies into account: The Euro, the Japanese yen, the Canadian dollar, the British pound, the Swedish krona, and the Swiss franc. The EUR is an essential component of the index, accounting for nearly 58 percent (officially 57.6 percent) of the basket. The following currencies are weighted in the index: JPY (13.6 percent), GBP (11.9 percent), CAD (9.1 percent), SEK (4.2 percent), and CHF (3.6 percent).
An index calculation index multiplies each currency's value by its weight. Remember, when USD is the Quote currency on a pair, the weight must be negative, and when USD is the base, the weight should be positive. If the index shows a value over 100, the US dollar appreciates, and below 100 means it has depreciated.
Why Is the US Dollar Index Important for Traders?
The US dollar is the world's most important currency by many measures. Traders and investors observe the movement of the US dollar index because it allows them to monitor the value of the US dollar and compare it to the currencies in the basket for a single transaction. Similarly, it will convince them that the US dollar will appreciate its value across the countries. Through that, it is much better to place their securities on the rising US dollar index instead of monitoring several forex positions. Lastly, there are market participants that use the US Dollar Index for hedging purposes that allow them to hedge their securities against any risks related to the US dollar.
Factors to Consider When Trading the US Dollar Index
The US Dollar Index is influenced by the supply and demand for the US Dollar and the currencies that comprise the basket. These factors impact the value of each currency pair in the formula used to measure the value of the US Dollar Index. The monetary policies particularly interest rates set by each country's central bank significantly impact currency supply and demand. Inflation, economic performance, credit ratings, market sentiment, and foreign affairs are also considered.
How to Trade the US Dollar Index?
Trading the US dollar index is the same as the equity index. You have to deal with one security rather than buying or selling the securities simultaneously. However, instead of trading in a variety of US Dollar pairs, you can trade on a single index that will likely rise or fall in response to the overall performance of the US market. If there is an increase in the United States, the dollar index is higher than the basket of currencies, and the US dollar is more substantial.
You can alter your securities based on the US Dollar Index movement. You might also adjust your long and short positions based on whether the USDX is up or down.
Trading the US Dollar Index via Futures
The US Dollar Index can be traded as futures contracts for 21 hours. These currency futures contracts help US dollar traders to speculate the value of the currency at a particular time to hedge risks and take advantage of the volatility of foreign exchange. These contracts only last for four months (the expiration cycle ends in March, June, September, and December). The rate of the specified currency price in the contract is generated from the currency pair's spot rates.
Trading the US Dollar Index via CFDs
Trading in Contracts For Difference (CFDs) is one of the simplest methods to use currency trading in various ways. CFDs are usually listed twenty-four hours a day and denominated in US dollars because of the index's consistency; the margin needed is low, and movement of 0.01 in the index typically equals one dollar on each contract.
You can be long or short on the US Dollar Index using CFDs. Currency index CFDs are used to hedge against dollar volatility if you have a portfolio of assets denominated in US dollars. Alternatively, if you are confident in the robustness of the commodity markets, you can profitably trade the Index CFD, either way, using the negative correlation with the dollar index.
Trading the US Dollar Index CFDs with eToro
It takes a long time to consider whether it is safe to trade on online platforms before trading currencies when you are a beginner. With eToro, rest assured that trading is safe and regulated, as it is an excellent zero-commission broker for beginners and pros. That said, users can easily benchmark and exchange the US Dollar index and other indices using this platform since it is relatively simple.
You may also build your portfolio to mitigate your risks in times of catastrophic loss. It is an advantage to exchange US dollars on eToro because there are benefits such as low capital requirements, transaction costs, and convenience. When you trade currencies on this platform, you are betting on the relative value of one currency to another.
How to Trade the US Dollar Index in eToro?
- Create an account on eToro or log-in your account for existing users.
- Click "Discover".
- Select "Indices".
- Look for "USDOLLAR".
- Select BUY or SELL.
- Key in your desired amount to invest or the number of USDOLLAR units you want to trade.
- Review and set the stop loss, leverage, and take profit parameters.
- Select "Open Trade".
Is It Wise to Invest in the US Dollar Index?
Traders can use the US Dollar Index to determine the strength of the US dollar. This index is an excellent tool for determining whether the US dollar is appreciating or depreciating. Investors should keep in mind that if the dollar is rising against one or two currencies does not mean it is growing in value overall. A trader can use the US Dollar Index to guarantee that they purchase dollars when the US Dollar appreciates generally.
Most traders and organizations focus on the US Dollar, pushing it to become one of the world's reserve currencies and the focal point of most financial markets, making it a good investment option. The US Dollar Index is an excellent tool that traders may use to trade on US Dollar currency pairings in conjunction with other technical and fundamental components of their analyzing process.
The six major trading currencies in the US Dollar index, namely: EUR, JPY, GBP, CAD, SEK, and CHF, are currently in flux as central banks continue to implement monetary policy measures to ease the country's liquidity amid the pandemic. Despite gradual changes, US Dollar remains on the list of top-performing currencies holding the title of the world's currency in line with the US Dollar Global acceptance.
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