In the dynamic realm of foreign exchange (forex), traders deal with currency pairs, each representing the exchange rate between two different currencies. A pip (short for “percentage in point” or “price interest point”) is a fundamental unit of measurement for price movements in these markets. Understanding what is a pip in forex is essential for anyone venturing into forex trading.
What Is a Pip in Forex Exactly ?
A pip represents the smallest standardized price variation that a currency pair can experience.
It’s the incremental change in the exchange rate between two currencies.
Most currency pairs are quoted to four decimal places, and a single pip corresponds to the fourth decimal place (e.g., 0.0001).
Here’s a breakdown:
- A pip is one-hundredth of one percent (1/100 x 0.01).
- It appears in the fourth decimal place (0.0001).
For example, consider the USD/CAD currency pair.
The smallest whole unit move it can make is $0.0001, which is equivalent to one pip.
Calculating Pip Value
The value of a pip depends on several factors:
- Currency Pair: Different pairs have varying pip values. For instance:
- If your forex account is funded in U.S. dollars (USD), and USD is the second currency in the pair (e.g., EUR/USD), the pip value remains fixed at $0.0001.
- If USD is the first currency (e.g., USD/CAD), the pip value involves the exchange rate.
- Trade Size (Lot Size): The pip value is calculated by multiplying the trade value (lot size) by the pip increment. Let’s illustrate this with examples:
- EUR/USD Pair:
- Suppose you’re trading 10,000 euros against the dollar at an exchange rate of 1.0801.
- Pip value = Trade value × Pip increment
- Pip value = 10,000 euros × 0.0001 = $1
- If you bought at 1.0801 and sold at 1.0811, you’d make a profit of 10 pips (equivalent to $10).
- USD/CAD Pair:
- Assume you’re trading 100,000 USD against the Canadian dollar at an exchange rate of 1.2829.
- Pip value = (Pip increment ÷ Exchange rate) × Trade value
- Pip value = (0.0001 ÷ 1.2829) × 100,000 = $7.79
- A 1-pip movement would yield a profit of $7.79.
- EUR/USD Pair:
JPY Exception
Japanese yen (JPY) pairs are an exception—they are quoted with two decimal places instead of four. Therefore, the pip increment for JPY pairs is 0.01.
Now, let’s explore how to calculate pip values for different scenarios.
1. Standard Lot Size
A standard lot size in forex trading typically represents 100,000 units of the base currency. Here’s how to calculate pip value for standard lots:
- EUR/USD Pair:
- Suppose you’re trading a standard lot (100,000 euros) against the U.S. dollar (USD) at an exchange rate of 1.0801.
- Pip value = Trade value × Pip increment
- Pip value = 100,000 euros × 0.0001 = $10
- If you bought at 1.0801 and sold at 1.0811, you’d make a profit of 10 pips (equivalent to $100).
- USD/JPY Pair:
- For JPY pairs, the pip increment is 0.01 (due to two decimal places).
- Assume you’re trading a standard lot (100,000 USD) against the Japanese yen (JPY) at an exchange rate of 109.50.
- Pip value = (Pip increment ÷ Exchange rate) × Trade value
- Pip value = (0.01 ÷ 109.50) × 100,000 = $9.13
- A 1-pip movement would yield a profit of $9.13.
2. Mini Lot Size
A mini lot size represents 10,000 units of the base currency. Let’s calculate pip value for mini lots:
- GBP/CHF Pair:
- Suppose you’re trading a mini lot (10,000 British pounds) against the Swiss franc (CHF) at an exchange rate of 1.2500.
- Pip value = Trade value × Pip increment
- Pip value = 10,000 GBP × 0.0001 = 1 CHF
- If you bought at 1.2500 and sold at 1.2510, you’d make a profit of 10 pips (equivalent to 10 CHF).
3. Micro Lot Size
A micro lot size represents 1,000 units of the base currency. Let’s calculate pip value for micro lots:
- AUD/NZD Pair:
- Assume you’re trading a micro lot (1,000 Australian dollars) against the New Zealand dollar (NZD) at an exchange rate of 1.0500.
- Pip value = Trade value × Pip increment
- Pip value = 1,000 AUD × 0.0001 = 0.10 NZD
- A 1-pip movement would yield a profit of 0.10 NZD.
Conclusion
Understanding pip values is crucial for risk management, position sizing, and profit calculations in forex trading.
Whether you’re a seasoned trader or a beginner, mastering the concept of pips empowers you to make informed decisions and navigate the exciting world of currency markets.
Remember, every pip counts! Happy trading!
