Forex strength: Forex Index

Nov 30, 2022 | Forex

Forex strength: US dollar index history

There is the dollar index for its acronym (USDX) is a weighted measure of value in relation to a basket of foreign currencies. It was established by the US Federal Reserve in 1973. It is represented by six currencies of the US’s major trading partners, but the index was only updated once in 1999, when the Euro replaced the Deutsche Mark, the French Franc, the Lira Italian, the Dutch guilder and the Belgian franc. Consequently, the index is currently calculated taking into account six major currencies: euro (EUR 57.6%), Japanese yen (JPY 13.6%), Canadian dollar (CAD 9.1%), British pound (GBP 11.9%), Swedish krona (SEK 4.2%) and the Swiss currency franc (CHF 3.6%) with those percentages not being equally weighted.

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Creating a Forex Index

We can create an index that measures the strengths of the major currencies with the same percentage weight to see where money flows in currency exchanges. We are going to establish the main currencies with the most volume in their crosses, such as:

  • Australian Dollar (AUD)
  • Canadian Dollar (CAD)
  • Swiss Franc (CHF)
  • EURO (EUR)
  • British Pound (GBP)
  • Japanese Yen (JPY)
  • New Zealand Dollar (NZD)
  • US dollar (USD)

Calculation of the indicators

We have currencies such as the Euro and the British Pound, which are the easiest to calculate since their currency, the base currency, is in the first position, for example: EURAUD, EURCAD, EURCHF, EURGBP, EURJPY, EURNZD and EURUSD. To calculate it we simply subtract the spread in points from the closing prices on a daily chart. (TODAY’S CLOSE – YESTERDAY’S CLOSE) From the beginning we want to calculate and we will add all the returns in points. There is the exception of the Yen pair that has only two decimal places, the JPY pair must be divided by 100 so that its price is equal to the others.

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Indices like the NZD have currencies that are not in the first position, such as the AUDNZD, we will divide them by 1 to turn it around and have the NZDAUD price.

An example of how our index can look like:

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Display of currency indices

Once the indices are created we will have 8 main indices, which represent their respective crosses with a total of 28 currency pairs being included in these calculations. The following graph below represents the 8 indices calculated since the beginning of the year 01/01/2022.

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The strongest currency to date is clearly the pink US dollar with a total of 8282 points. However, the currency that has suffered the most devaluation is clearly the Japanese Yen represented in blue with a total of -7159 points.

Thus, simply looking at the Forex indices that we have created, the winning currency this year is the UDJPY pair. closing 2021) -1. (139.10 / 115.04)-1 = 21% revaluation. USDJPY chart rising since 2021.

Thus, simply looking at the Forex indices that we have created, the winning currency this year is the USDJPY pair, which closed 2021 at 115.04 and today when we write this article, it is trading at 139.10, therefore:

Percentage change = (Today’s price / Closing price 2021) -1.

(139.10 / 115.04)-1 = 21% revaluation.

USDJPY chart rising since 2021.

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Index equivalences

Now that we know that the strongest pair has been the USD and the weakest has been the JPY, we can open the USD index inside to see the component currencies and see their behavior.

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Here the currency correlations come into play, the year began with the USD rising against the NZD and the AUD, but the rise deflated and the JPY began to devalue, falling behind all the other currencies, with the USDJPY clearly winning.

The currency that has devalued the least against the US dollar has been the CAD (yellow) and the CHF (red).

With this indicator we can create trend strategies of currency strength or also regressive anti-trend strategies due to the characteristics of the currencies and money flows. Which country is devaluing its currency and which are strengthening it.

Article written by Ángel Talavera

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