The US dollar, against other currencies, is becoming stronger with each passing day. The dollar is currently hanging near levels it hasn’t seen in 20 years on the U.S. Dollar Index. It remains to be seen if it is able to cross the 121 level last seen in January 2002. Since January, it has strengthened by 18% and is currently around the 113.32 level. Also, the 52-week high of 114.75 is nearing and with the way US Fed is hiking rates, a new high in 2022 may not be far for the dollar index.
But, what is the dollar index? The value of the U.S. dollar in relation to a basket of international currencies is gauged by the U.S. dollar index (USDX). The six currencies included in the USDX are the Euro, Swiss franc, Japanese yen, Canadian dollar, British pound, and Swedish krona.
And, what does it signify? The strength of the dollar against a bunch of these currencies can be gauged by looking at the dollar index. And, if the USDX is rising, it means the dollar is gaining strength against all of them taken together and vice versa.
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Why is the dollar index tracked? The dollar index, among several other leading indicators, remains a closely watched yardstick by stock market analysts, strategists, and investors. A stronger dollar bull market has been negative for stocks mainly because it impacts the profits of global corporations. A stronger dollar makes imports cheaper but makes exports more expensive and less competitive on world markets.
Why is it rising? The strengthening of USDX has got to do with the US Fed raising interest rates. When rates are hiked, bonds are dumped and with the bond prices falling, the yield of these bonds goes up. When yields are high, there is less incentive to invest in risker assets such as equities and hence stock prices fall. This is exactly what is happening in the US stock market as rising yields in 2022 are reflected in falling stock values since January this year.
Also, when yields are high, the demand for dollars is high. This translates into a stronger dollar and corresponding strength in the dollar index. In such a scenario, there is less incentive to invest in riskier assets. Hence, the higher the real returns, the greater the dollar’s demand as a result. The Dollar Index will continue to pound down on stock values as it rises. A key level to watch out for will be 121 and any reversal could make the bulls come back.