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A while ago we posted about the ICE Dollar Index going EOD due to ICE regulations, and intro of the DJ FXCM Dollar Index.
David Rodriguez, a popular analyst and the senior strategist for @DailyFX, shared an insightful post that compares the ICE DXY Index and the Dow Jones FXCM USDOLLAR Index. Below is his analysis (opinions are his own).
What are these indexes?
The goal of any dollar index to to assess how the US Dollar is doing overall as a currency. One of the most popular symbols today is the Dollar Index by ICE — denoted as the DXY. Dow Jones and FXCM developed an alternative to the DXY with a different formula. It’s a newer and relatively simpler take based on just four popular currencies to contend with the arguably outdated and more complex ICE DXY formula.
How each index is calculated
The ICE Index is geometrically weighted on international trade data. The geometric weighting means that relative currency hedges change by the value of the index— which makes it costly for market makers to hedge and make markets on appropriately. The outdated weights mean that it’s essentially an inverse Euro chart.
The DJ FXCM Index is arithmetically weighted using values from January 1, 2011—well-after the inception of the euro. It’s designed to mimic actual USD-long positions vs the AUD, JPY, GBP, and EUR. It’s substantially easier to make markets on and continue to see growing use—both from market makers and users.
Calculation & Movements
ICE US Dollar Index construction is rather difficult and could be confusing for some traders. The geometric averaging means that a Euro move from $1.05-1.10 carries less weight than if it moves from $1.10-1.15, when in actuality the percentage move was greater in the first case. Further it’s important to note that the relative weights were set in 1973 according to trade weights; the Euro carries an approximately 60 percent weight in the index at any given moment.
The DJ FXCM US Dollar Index makes use of a more straightforward methodology based on 4 currencies in equal amounts — AUD, JPY, GBP, and EUR at 25% each. That Euro move from $1.05-$1.10 has the same impact as the move from $1.10-$1.15 as it simply tracks the value of holding individual positions. Instead of controlling four different positions and tracking moves in each currency, however, the trader can hold just one position open and watch the US Dollar’s performance at a glance.
The ICE index is more traditional and a habit to watch for a lot of people. At the same time it’s important to have a complete understanding of what it means and how it’s calculated. If you don’t, read up, or use something you understand.
DJ FXCM Index is a simpler and arguably more modern take on how to best calculate how the US Dollar is doing against the world currencies. It’s equally weighted in the 4 popular currencies, and is simple to understand.
Which one works best for you? You decide.