How does the US Dollar Index actually affect your investment portfolio? A must-have indicator for global investors

Every time you open financial news, you see headlines like “US Dollar Index Hits New High” or “US Dollar Index Retreats.” But do you really understand what the US Dollar Index (USDX or DXY) actually represents? How do its rises and falls relate to your stocks, gold, or even Taiwan stocks?

In fact, the US Dollar Index is not just an indicator that economists watch; it is a crucial tool that every global investor should understand.

What is the US Dollar Index? The “Thermometer” of Global Finance

If you’re familiar with the stock market, you’ve probably heard of indices like the “S&P 500” or the “Dow Jones Industrial Average”—which track the performance of a basket of stocks. The US Dollar Index works similarly, but instead of tracking company stocks, it measures the strength or weakness of the US dollar relative to six major international currencies.

The six currencies that make up the US Dollar Index are:

• Euro (EUR)
• Japanese Yen (JPY)
• British Pound (GBP)
• Canadian Dollar (CAD)
• Swedish Krona (SEK)
• Swiss Franc (CHF)

In simple terms, the US Dollar Index tells us whether the dollar is more valuable or cheaper on the international stage. Since the dollar is the world’s primary settlement currency—used in commodity trading, energy, gold, stocks, and more—fluctuations in the USDX can trigger chain reactions across global capital markets.

How are the weights of the currencies in the US Dollar Index distributed?

To understand how the US Dollar Index works, you need to know the relative weights of each currency:

Why are the weights assigned this way?

The euro accounts for over half of the index because the EU economy is large, covering 19 member countries, and the euro is the second-largest reserve currency globally. Therefore, significant movements in the euro tend to have a substantial impact on the overall US Dollar Index.

The Japanese Yen ranks second, reflecting Japan’s position as the third-largest economy, and the Yen is often used as an international safe-haven currency due to its low interest rates.

The other four currencies, though smaller in weight, represent important economies. The Swiss Franc is especially noted for its “safety and stability” characteristics.

What does an increase or decrease in the US Dollar Index actually mean?

When the US Dollar Index rises

When the US Dollar Index appreciates, it essentially means the US dollar has strengthened, becoming more valuable in the eyes of international investors. This has chain effects:

Advantages for the US:

• US companies face lower costs for imported goods, boosting purchasing power
• Global capital favors dollar assets (US bonds, US stocks), leading to increased demand for USD
• A stronger dollar helps curb inflation and supports economic growth in the US

Impacts on other economies:

• Export-oriented economies like Taiwan face challenges—since goods priced in USD become relatively more expensive, reducing foreign buyers’ willingness to purchase
• Emerging markets with USD-denominated debt face increased repayment pressures
• Stock and currency markets may come under pressure

When the US Dollar Index declines

A decline indicates that the US dollar is weakening relative to other currencies, and investors may reduce holdings of USD assets.

Impacts on Taiwanese investors:

• International capital flows may shift toward Asian markets, potentially bringing funds into Taiwan stocks
• The New Taiwan Dollar (NTD) faces appreciation pressure; import costs decrease but export competitiveness may decline
• Investors holding US stocks or USD deposits face exchange rate losses—since a weaker dollar means converting back to NTD yields less

Quick judgment:

• US Dollar Index ↑ = US dollar is strong → capital flows into the US → Taiwan exports face pressure
• US Dollar Index ↓ = US dollar weakens → capital may flow into Taiwan stocks → favorable for NTD appreciation

How is the US Dollar Index calculated?

The US Dollar Index uses a “geometric weighted average” method, which can be summarized as:

US Dollar Index = 50.14348112 × (EUR/USD)^(-0.576) × (JPY/USD)^(-0.136) × (GBP/USD)^(-0.119) × (CAD/USD)^(-0.091) × (SEK/USD)^(-0.042) × (CHF/USD)^(-0.036)

Core concepts:

• “50.14348112” is a fixed constant to set the base period value of the index at 100 in 1985
• The exponents are the weights of each currency
• The US Dollar Index is not a direct exchange rate but an index measuring the dollar’s relative strength compared to the base period

What does the index value mean?

• Index = 100: at the base level, no change
• Index = 76: 24% weaker than the base, dollar has depreciated
• Index = 176: 76% stronger than the base, dollar has appreciated

Remember: a higher US Dollar Index indicates a stronger dollar; a lower index indicates a weaker dollar.

How does the US Dollar Index interact with major global assets?

Understanding the US Dollar Index is crucial because it directly influences the performance of US stocks, gold, bonds, and even Taiwan stocks.

Relationship between the US Dollar Index and US stocks

The relationship between US stocks and the US Dollar Index is not one-directional; it depends on the economic context:

• Scenario 1: Dollar appreciates → attracts global capital into US markets → US stocks supported and rise
• Scenario 2: Dollar appreciates excessively → harms US companies’ overseas earnings → US stocks may decline

For example, in early 2020, global markets plunged but the dollar surged to 103 due to risk aversion. Later, as the US implemented easing policies, the dollar index fell to 93.78, and US stocks began to rebound.

Conclusion: The interaction between US stocks and the US Dollar Index is complex and requires considering economic cycles and policy environments.

Relationship between the US Dollar Index and gold

The US Dollar Index and gold prices often show an inverse relationship:

• US Dollar Index ↑ → Gold priced in USD becomes more expensive → Demand for gold drops → Gold prices fall
• US Dollar Index ↓ → Gold becomes cheaper in USD → Demand increases → Gold prices rise

This is because gold is globally quoted in USD. However, gold prices are also affected by inflation, geopolitical tensions, oil prices, and other factors, so the US Dollar Index is just one piece of the puzzle.

Relationship between the US Dollar Index and Taiwan stocks / NTD

Broadly:

• US Dollar Index ↑ → US attracts capital → Capital flows out of Taiwan → NTD faces depreciation pressure, Taiwan stocks may come under selling pressure
• US Dollar Index ↓ → US appeal diminishes → Capital flows into Asia → NTD appreciates, Taiwan stocks supported

But this logic isn’t absolute. When global economic outlooks are optimistic, US stocks, Taiwan stocks, and European stocks may rise together; during systemic risks, markets may fall in unison.

What key factors drive changes in the US Dollar Index?

1. Federal Reserve (Fed) interest rate decisions

This is the most direct factor influencing the US Dollar Index.

• Rate hikes: US interest rates rise → global capital flows into US → USD appreciates → US Dollar Index rises
• Rate cuts: US interest rates fall → reduced attractiveness of USD → capital outflows → USD depreciates → US Dollar Index falls

Every Fed meeting garners market attention due to concerns about volatility in the dollar and asset prices.

2. US economic data

Indicators like Non-farm Payrolls, Unemployment Rate, CPI inflation, GDP growth influence confidence in the dollar:

• Strong data → US economy looks healthy → USD appreciates
• Weak data → economic outlook dims → USD weakens

3. Geopolitical and international events

Wars, political turmoil, regional conflicts tend to trigger risk aversion, making the dollar a preferred safe haven. This explains why “the deeper the crisis, the stronger the dollar”—a seemingly paradoxical phenomenon.

4. Movements of other major currencies

The US Dollar Index measures the dollar’s strength relative to six currencies. When the euro, yen, or pound weaken due to recession, loose policies, or political instability, the US Dollar Index can rise even if the dollar itself isn’t appreciating.

In other words: When other currencies depreciate, the US Dollar Index can appear stronger.

US Dollar Index vs. Trade-Weighted US Dollar Index: Which should investors watch?

There is another indicator often confused with the US Dollar Index—the “Trade-Weighted US Dollar Index.” What’s the difference?

US Dollar Index (USDX / DXY)

• The most common and widely reported index
• Composition: US dollar against six major currencies
• Maintained by: ICE (Intercontinental Exchange)
• Features: The euro has the highest weight (57.6%), reflecting a Eurocentric perspective

Trade-Weighted US Dollar Index

• A key tool used by the Federal Reserve
• Composition: Based on actual US trade partners, covering over 20 currencies
• Features: Includes RMB, Korean Won, NTD, Thai Baht, and other emerging market currencies, providing a more realistic picture of global trade

For most investors, the US Dollar Index is sufficient due to its liquidity, transparency, and accessibility. If you’re involved in macroeconomic research, forex trading, or want a deeper understanding of Fed policies, the trade-weighted index offers more nuanced insights.

Summary: Master the US Dollar Index, Master Global Capital Flows

The US Dollar Index is essentially a barometer of global capital flows. It influences US stocks, gold, crude oil, and even Taiwan stocks and the NTD exchange rate.

Whether you’re an investor, trader, or a market observer, understanding the US Dollar Index helps you:

• Anticipate international capital movements
• Assess risks across different assets
• Adjust your investment strategies in time
• Capture opportunities in forex trading

Next time you see headlines mentioning “US Dollar Index hits new high” or “US Dollar Index retreats,” you’ll be able to interpret what it means for the global financial markets.