USDX is a VertexFX client-side indicator that implements the popular US Dollar Index based on the USD and the major economic currencies of the world.
The US Dollar accounts for nearly 80% of the world’s currency transactions and therefore forex traders rely on the USDX for the direction of the US Dollar as well as global markets. The USDX represents the strengths and weaknesses of the US Dollar with respect to the major currencies of the world.
The USDX is a composite index based on EURUSD, USDJPY, GBPUSD, USDCAD, USDCHF and the USDSEK. The formula for calculating USDX is:
USDX = 50.14348112 × EURUSD-0.576 × USDJPY0.136 × GBPUSD-0.119 × USDCAD0.091 × USDSEK0.042 × USDCHF0.036
These exponential weights are calculated based on the strength of the economies of the underlying countries. The GDP of the country, its reserves, sovereign ratings, and stability play an important role in calculating the weights. Currencies denominated in USD, namely EURUSD and GBPUSD have a negative weightage, whereas currencies that are traded in USD namely USDJPY, USDCAD, USDSEK, and USDCHF have a positive bias. This ensures that when USD is bullish with respect to other currencies the USDX rises and whereas when it is bearish the USDX falls. For example, the weightage of EURUSD is nearly five times that of GBPUSD because it reflects the trade value of the US between Europe and the UK. The trade between the US and Europe is more than four times that of the US and UK.
The USDX was introduced in 1973 with a base of 100. Its formula was recalibrated in 1999 with the introduction of the Euro (EURUSD) and has remained unchanged since then. The USDX moves primarily due to changes in macro-economic events like US Fed policies, trade wars etc. Technical and short-term factors do not tend to have much effect on the movement of USDX.
The USDX by itself does not offer any trading signals, but it should be used in conjunction with USD based currency pairs. When the USDX rises and closes above its fast Moving Average, a trader can enter BUY trades in USDCAD, USDCHF, USDJPY, or USDSEK. Contrarily, the trader can enter SELL trades in EURUSD or GBPUSD. A rising USDX implies a strong USD and continuation of the current trend. Therefore currencies denominated in USD, namely EURUSD and GBPUSD will fall, whereas non-USD denominated currencies will rise.
Likewise, when the USDX falls and closes below its fast Moving Average, a trader can enter SELL trades in USDCAD, USDCHF, USDJPY, and USDSEK. Contrarily, the trader can enter BUY trades in EURUSD and GBPUSD because a falling USDX implies a weak USD and therefore strong CAD, JPY, CHF, SEK currencies.
It is recommended that traders take into consideration other fundamentals factors like policy changes and macro events because USDX is primarily affected by macro changes and less by technical factors.