The Almighty Dollar (Index)

It struck me the other day that there has been a ton of commentary out there about the strength of the U.S. dollar (or the lack of strength, depending on the day).

But there hasn’t been much explanation of what that is, how it’s calculated, why it’s calculated, or what it really means for investors.

So today I want to take a few pages to talk about the U.S. Dollar Index, its history, and how it affects financial markets and your investments…

First, let’s start off with a little history lesson on when, where, and why the U.S. Dollar Index came into existence.

Then we can move into the more interesting topics of what it means and how it’s affecting your stocks, bonds, and other investments on a daily basis.

50 Years of History

The U.S. dollar index is a measure of the value of the U.S. dollar compared with a basket of other major currencies, including the euro, yen, and British pound.

And it was created in the 1970s by the U.S. government in response to the breakdown of the Bretton Woods system, which had pegged the value of the U.S. dollar to gold.

After the breakdown of Bretton Woods, the U.S. dollar became a floating currency, meaning its value was determined by supply and demand in the foreign exchange markets.

The U.S. government created the dollar index as a way to track the value of the dollar against other major currencies and provide a benchmark for investors and traders.

The currencies included in the dollar index are weighted based on their importance in U.S. trade, with the euro and yen being the most heavily weighted.

It used to be an even better reflection of the U.S.’s major trade partners, but that connection has faded some over the past half-century.

You see, the index has only been updated once in all those years…

Back in 1999, when the euro replaced the German mark, French franc, Italian lira, Dutch guilder, and Belgian franc.

Since then it’s included the euro, Swiss franc, Japanese yen, Canadian dollar, British pound, and Swedish krona, despite China being a bigger trade partner than every one of those countries.

The index is calculated using the geometric mean of the exchange rates between the U.S. dollar and the six other currencies.

The U.S. dollar index is important in financial markets because it provides a benchmark for investors and traders to track the value of the U.S. dollar against other major currencies.

It is widely used in the foreign exchange markets as a way to hedge currency risk and as a basis for trading currency derivatives.

The index is also closely watched by central banks and policymakers, as changes in the value of the U.S. dollar can have significant implications for international trade and monetary policy.

Overall, the U.S. Dollar Index is an important tool for investors, traders, and policymakers to track the value of the U.S. dollar and its impact on the global economy.

And that’s because it’s not just about currencies and their relation to each other, but also their relation to things that we buy using those currencies…

Indexes and Investments

The U.S. Dollar Index can have an impact on the prices of various financial assets, including public equities, commodities, fixed-income products, and precious metals. Here's how…

Public equities: A stronger U.S. dollar can lead to lower stock prices for U.S. companies because it makes their goods and services more expensive for foreign buyers.

On the other hand, a weaker U.S. dollar can boost stock prices because it makes U.S. goods and services more affordable for foreign buyers.

Commodities: The prices of many commodities are denominated in U.S. dollars, so changes in the value of the U.S. dollar can have a significant impact on their prices.

A stronger U.S. dollar can lead to lower commodity prices because it makes them more expensive for buyers in other currencies.

Conversely, a weaker U.S. dollar can boost commodity prices because it makes them more affordable for buyers in other currencies.

Fixed-income products: The U.S. dollar is the world's reserve currency, which means that many countries hold U.S. dollars or U.S. dollar-denominated assets as part of their foreign exchange reserves.

When the U.S. dollar strengthens, it can lead to higher demand for U.S. Treasury bonds and other fixed-income products, which can push down their yields (i.e., the amount of interest they pay).

Equally, when the U.S. dollar weakens, it can lead to lower demand for these products, which can push up their yields.

Precious metals: Like commodities, the prices of precious metals such as gold and silver are often denominated in U.S. dollars.

As a result, changes in the value of the U.S. dollar can have a significant impact on their prices.

When the dollar strengthens, it can lead to lower prices for precious metals because they become more expensive for buyers in other currencies.

On the contrary, when the dollar weakens, it can lead to higher prices for precious metals because they become more affordable for buyers in other currencies.

Overall, the U.S. Dollar Index can have a significant impact on the prices of various financial assets, and it is important for investors to consider its potential impact when making investment decisions.

Where We Are and Where We’re Going

The U.S. Dollar Index is constantly fluctuating based on various economic and political factors.

In general, a higher U.S. Dollar index value indicates a stronger U.S. dollar relative to the basket of currencies it is compared with, while a lower value indicates a weaker U.S. dollar.

And the strength of the U.S. dollar can have a large impact on U.S. stock markets.

A stronger U.S. dollar can make U.S. exports more expensive for foreign buyers, potentially leading to lower revenues for U.S. companies and lower stock prices.

However, a stronger U.S. dollar can also make imports cheaper, potentially leading to lower costs for U.S. companies and higher profits.

On the other hand, a weaker U.S. dollar can make U.S. exports more affordable for foreign buyers, potentially leading to higher revenues for U.S. companies and higher stock prices.

Yet a weaker U.S. dollar can also make imports more expensive, potentially leading to higher costs and lower profits for U.S .companies.

As I type this, the index currently sits at 104.97. The arithmetic average over the past 50 or so years is 97.03…

And that current value could be interpreted in several ways in relation to the long-term average.

One possibility is that it indicates a strong U.S. economy, which may suggest potential growth and stability for U.S. stock markets in the future.

However, it is important to keep in mind that the U.S. Dollar Index is just one measure of the strength of the U.S. economy and there are many other factors that can influence the performance of the stock market.

Additionally, predicting future stock market performance is always challenging and involves a variety of complex and often unpredictable factors.

What I can tell you is that some experts predict that U.S. stock markets may experience continued growth in the coming months.

Others, myself included, are more cautious and suggest that there could be increased volatility and uncertainty ahead.

Ultimately, only time will tell how the U.S. economy and stock markets will perform in the future.

It's important to note that the relationship between the U.S. Dollar Index and U.S. stock markets is complex and influenced by many other factors as well.

Therefore, it is difficult to make accurate predictions about the future direction of U.S. stock markets based solely on the current value of the U.S. dollar index.

But it’s something investors like you and I should understand and pay attention to.

And now I hope it’s a little easier for you to digest the data whenever another talking head starts going on about the dollar index and what that’s doing to investments.

To your wealth,

Jason Williams

@TheReal_JayDubs

Angel Research on Youtube

After graduating Cum Laude in finance and economics, Jason designed and analyzed complex projects for the U.S. Army. He made the jump to the private sector as an investment banking analyst at Morgan Stanley, where he eventually led his own team responsible for billions of dollars in daily trading. Jason left Wall Street to found his own investment office and now shares the strategies he used and the network he built with you. Jason is the founder of Main Street Ventures, a pre-IPO investment newsletter; the founder of Future Giants, a nano cap investing service; and authors The Wealth Advisory income stock newsletter. He is also the managing editor of Wealth Daily. To learn more about Jason, click here.

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