Forex: trading currency indices

Currency index trading allows you to speculate on the value of an overall currency rather than trade a single currency pair. This article compares trading currency pairs vs currency indices, popular strategies and how to find the best brokers to trade currency indices.

More commonly, indices are a collection of stocks grouped together to represent a particular sector of the market. Some of the most popular indices include the Nasdaq, which tracks 100 of the largest US non-financial companies, and the FTSE, which lists the top 100 stocks listed on the London Stock Exchange.

A currency index is similar as it aims to track the value of a single currency. Indices achieve this by tracking a basket of individual currency pairs, which are weighted to provide a theoretically balanced value for the primary currency. This reduces exposure to a single currency pair.

For example, the US dollar index is calculated by combining a basket of currencies from the world's major nations, including Japan, Australia and Sweden. The weighting of the different currency pairs is as follows:

• 57.6% - Euro/US dollar (EUR/USD)
• 13.6% - US dollar/Japanese yen (USD/JPY)
• 11.9% - British pound/US dollar (GBP/USD)
• 9.1% - US dollar/Canadian dollar (USD/CAD)
• 4.2% - US dollar/Swedish crown (USD/SEK)
• 3.6% - US dollar/Swiss franc (USD/CHF)

Major forex indices include the above-mentioned USDX, the euro index and the Swiss franc index. However, there are also forex indices for minor and exotic currencies, such as the Swedish krona index and the Norwegian krone index.

Trading currency pairs vs currency indices

The main difference between trading currency pairs and indices is diversification. When trading currency pairs, you're speculating on the price relationship between two currencies. It's often more volatile than a forex index and major pairs such as the EUR/USD are more liquid. On the other hand, currency index trading provides a more balanced value of a single currency.

Another difference is available assets. While there are 100s of currency pairs, there are far fewer currency indices. Trading currency pairs is therefore the main way to speculate on minor or exotic currencies.

Markets and instruments

When it comes to currency indices, there aren't as many markets to choose from as traditional indices or currency pairs. Although minor currencies such as the Swedish krona and Singapore dollar are available for trading, investors are limited to dozens, rather than hundreds of markets.

However, there is no shortage of trading instruments available for currency indices. For example, the US dollar index can be traded via CFDs, futures and options.

Trading fees

Fees are important for investors, as high fees and commissions can quickly eat into your profits.

Traders will be happy to know that currency index trading fees are generally low. In fact, when trading the US dollar index or other major currency indices, many brokers offer commission-free trading or low-spread CFDs.

Specifications for dollar index trading at XTB

If you want to trade major currency indices through more traditional methods such as mutual funds or ETFs, the costs are also low. In effect, these instruments are passive tracking funds rather than actively managed funds which entail higher commissions.

Currency index trading: the pros

• You're trading a single currency - whereas currency pairs allow you to pit two currencies against each other, currency index trading allows you to speculate on a more balanced overall value of a currency.
• Simplicity - when trading currency pairs, you're highly exposed to the fluctuations of two currencies, rather than just one. For example, if you think the British pound will weaken you can speculate on the GBP/JPY, but you'll also be vulnerable to fluctuations of the JPY. However, the balanced basket of currencies used in currency indices helps reduce exposure to variations in the base currency.
• Low cost - currency indices tend to have competitive spreads and brokerage commissions, whether you're trading CFDs or other assets.
• Range of instruments - from CFDs to futures, currency index trading is available through a range of assets, with each one being suited to different trading styles and strategies.

Currency index trading: the cons

• Low volatility - When trading leveraged derivatives such as options and CFDs, volatility can help boost profits. More balanced currency index values, though, may limit this profit potential due to comparatively lower volatility.
• High exposure to a single pair - Currency pair weights are meant to provide a diversified method of assigning value to a currency. However, this isn't always the case in practice. For example, due to the advent of the euro and the consolidation of European currencies into one, the US dollar index is 56.7% exposed to the EUR/USD pair.
• Limited markets - While hundreds of currency pairs give you the opportunity to speculate in minor and exotic currencies, there are currently relatively few currency indices.
• Reduced trading hours - Forex markets benefit from 24h/5d trading through the use of multiple global trading centers such as Tokyo or Paris. Unfortunately, currency indices do not benefit from this system and have significantly reduced trading hours compared to traditional currency pairs.

Currency index trading strategies

There are different strategies to learn how to master currency indices live. Ultimately, experienced traders rely on a combination of leading forex indicators and signals to predict trades.

Rumours and news

Experienced forex traders know the power breaking news has on the value of a currency. Traders can take advantage of trading opportunities by using forex indices, which filter the effects of other currencies thanks to their diversification.

One popular strategy is to "buy the rumour and sell the news". It's about locking in your position before the market reacts to the upcoming news in order to maximise profits. However, this is risky as rumours can often be incorrect. Also, there's no guarantee that the news will affect the markets the way you expect them to.

Breaking news to watch includes inflation and interest rate announcements, as well as high-profile monetary interventions, such as the one in 2022 when the Bank of England stepped in to buy long-term bonds.

This was to contain the selloff that occurred after the government's short-lived mini-budget, which affected the yield on 30-year gilts by up to 1%, as well as the value of the GBP versus the USD.

Fundamental data

Long-term investments in a currency index will often be guided by fundamental analysis. These are the economic and political factors that influence the value of a currency.

Economic growth, as measured by GDP and employment rates, is an example of a fundamental factor. Political stability is also a fundamental factor, as markets are sensitive to political changes. The trade balance is also important, with high exports usually strengthening a currency.

Traders also look at historical data to see trends in a currency's fundamentals and make predictions about its future value. However, if a trader believes that an upcoming event will alter the trend of the fundamentals, a reverse trade is also a lucrative form of investing, especially when using options.

Technical analysis

Thanks to the wide availability of detailed analyses and platforms such as TradingView and MetaTrader 4, powerful technical analysis is easily available to you, more than it ever was before.

Traders will often use trend lines such as the Relative Strength Index (RSI) in currency index trading or other leading indicators such as support and resistance lines and Fibonacci overlays.

In addition, technical analysis can be performed over different time horizons, with short term forex trading instruments such as CFDs allowing trends to be analysed on 5 or 15 minute charts.

How can I trade currency indices?

Choose your market and instrument

Although many brokers offer multiple currency indices, you should first choose your preferred trading asset. This will allow you to ensure that the broker you've chosen supports this asset before you deposit funds.

It's also important that you choose your preferred trading instruments, as most brokers only support one or two, for example CFDs, ETFs or futures.

Choose a broker

When it comes to currency index trading, it's important that you choose a reputable and inexpensive broker. Here are some key tips to help you identify the best currency index broker:

• Regulated by a reputable body.
• It offers competitive trading and withdrawl fee conditions, such as a commission-free accounts.
• It supports your favorite payment methods, such as PayPal or bank transfers.
• It offers reliable and user-friendly trading platforms.
• It offers helpful and accessible client support, available 24/5 via live chat or telephone.

Brokers	Regulation	Trading platforms	Official website
	FCA, ASIC, CySEC, JSC, OCRCVM, FSCA	MetaTrader 4 and 5
	ASIC, CBFSAI, FRSA, BVIFSC, FSCA, JFSA, OCRCVM	MetaTrader 4 and 5 AvaOptions
	FCA, ASIC, CySEC, BaFin, DFSA, CMA, SCB	MetaTrader 4 and 5 cTrader, TradingView
	CySEC, ASIC, BIFSC	MetaTrader 4 and 5
	CNMV, FCA, KNF, CySEC, BIFSC, DFSA, FSCA	xStation
ASIC: Australia, BaFin: Germany, BIFSC: Belize, CNMV: Spain, CySEC: Cyprus, FCA: UK, KNF: Poland, OCRCVM: Canada, DFSA: Dubaï, FSA: Seychelles, FSCA: South Africa, CBFSAI: Ireland, FRSA: Abu Dhabi, JFSA: Japan, JSC: Jordan, CMA: Oman, SCB: Bahamas
CFD trading comes with a high risk of losing money, it is therefore not suitable for all investors. Between 74-89% of retail investor accounts lose money when trading CFDs.

Create an account

This is really a simple process, but companies often require verification details for regulatory purposes, such as copies of IDs, passports or bank statements.

Next, you need to fund your currency index trading account. If you plan to trade a leveraged currency index market, make sure you have enough capital to avoid a quick stop-out or margin call.

Identify your preferred market

Once your account is set up and funded, it's time to start trading currency indices. Download one of the trading platforms supported by your broker (some brokers also offer online platforms) and access the asset of your choice.

If your trading is focused on a small number of markets, most platforms allow you to add bookmarks or favorites to these asset pages for quick browsing in the future.

Trade!

Once you've performed your currency index analysis, it's time to trade.

In addition to selecting your position, you need to set stop-loss and take-profit levels, with advanced trailing tools available on some platforms. "Trailing" means that the stop-loss will move up as the price moves up, to help you lock in more profits (and the same goes for the take profit level). This will help you control your exposure to risk.

Close your position

Watch the market for the best opportunity to close your trade, taking your profits or stopping your losses.

One last word on currency index trading

Currency index trading is a good choice for traders who want to speculate on the value of a currency instead of being exposed to individual currency pairs. There are many currency index trading instruments, and these are typically low cost. However, the choice is limited for exotic markets and trading hours are reduced compared to traditional currency pairs.

FAQ - Currency index trading