If you are unfamiliar with the US Dollar Index (USDX), then you should get a crash course by checking out the USDX futures basics video.

A great way to spot an opportunity to trade the US Dollar Index (/DX) is to see how it correlates to other types of currencies.

If you look at the chart for /DX compared to /6J (Japanese Yen) and /6E (Euro FX), they appear to be negatively correlated.

When examining the correlations over 3 months, we see that:

• the US Dollar Index and Euro FX prices have a strong negative correlation (meaning that when the USDX goes up, Euro FX will typically go down and vice versa
  
• there’s a pretty strong negative correlation between USDX and the Japanese yen and the British pound
  
• there’s also a pretty strong negative correlation between USDX and the British pound

We then looked at the US Dollar Index compared to gold to see if there was any correlation. When observing the 1 month correlation chart, we found that there was a pretty strong negative correlation (-.52) between USDX and gold (/GC).

If we wanted to trade a spread based on the negative correlation of USDX and /GC that offered us some protection if we are wrong about the trade location, we would want to buy the gold contract and buy the Dollar Index.

Because the notional values of the contracts are pretty close to each other, we can weight the trade 1:1.

Strategies: Butterfly Spread
Products Discussed In This Episode: /DX, /GC