What is a Pip in Forex
Maybe you've been in the middle of watching a movie trailer on YouTube, and out of nowhere this ad appears with a guy who tells you how to make money in Forex. The ad gets your attention and you decide to hear this guy out. Then, just as it is getting more and more interesting, the guy starts talking about 100 pips a day. The ad, which at first seemed to be interesting, suddenly confuses you.
You were wondering: what exactly is a pip? And why did he quantify his profits in pips? Don't worry: this article will expand your knowledge about pips!
So what is a pip in Forex?
A pip is an abbreviation for “point in percentage” and represents the smallest unit of change in the value of a currency pair. For most currencies, especially the majors, a pip represents the fourth decimal place in the exchange rate for the two currencies. However, this decimal place can vary for some currency pairs. For currency pairs that involve JPY, a pip is represented by the second decimal place.
Let's take an example. Let's suppose you are a trader who is trading EUR/USD. You opened a long position when the exchange rate was 1.2712. You predicted that the price would go up, and after a few minutes the price moved to 1.2713 and you decided to close your trade. The price change here is 0.0001, which equals 1 pip.
Let's take a look at a real market situation. Let's assume that you opened a long position when the price was 1.1438, as shown in the table below. You predicted that the price would go up, but the price is in fact going in the opposite direction. Now you decide to close the position when the exchange rate is 1.1431. So how much did you lose? You have lost the entire change in the value of the currency pair – 0.0007 – which equals 7 pips.
Value of pips
A pip value can be defined as the price attributed to a move by one pip on the foreign exchange market. When you have a long position and the price is moving in your favor, your open trade will increase in value. The open position behaves in a similar way when the price moves against you. The pip value will tell you how much the incremental profit is worth. To get this value, we need to calculate the pip value.
Since the value of a pip is very tiny, Forex is always traded in standard lots, mini lots and micro lots. A standard lot is 100,000 units of the base currency; a mini lot is 10,000 units, while a micro lot is 1,000 units of the base currency. We also have a nano lot, which is 100 units of the base currency. Below you can find a list of how the different lot sizes affect the value of a pip.
Lot size Units of base currency Volume Pip value in USD 1 standard lot 100,000 1.0 1 pip=$10 1 mini lot 10,000 0.1 1 pip=$1 1 micro lot 1,000 0.01 1 pip=$0.1 1 nano lot 100 0.001 1 pip=$0.01
|Lot size||Units of base currency||Volume||Pip Value in USD|
|1 standard lot||100,000||1.0||1 pip=$10|
|1 mini lot||10,000||0.1||1 pip=$1|
|1 micro lot||1,000||0.01||1 pip=$0.1|
|1 nano lot||100||0.001||1 pip=$0.01|
Calculation of the pip value and position size - with examples
As we have already described, the pip value shows how much a pip movement contributes to your profit or loss. The pip value is important, because it helps you to manage risk. For example, if you don't understand the pip value, how can you calculate the ideal position size? So, if you don't understand the concept of the pip value, it will be difficult for you as a trader to measure and manage your risk.
Let's assume that you have a trading account denominated in euros, and you would like to trade 1 standard lot of EUR/USD at the exchange rate of 1.20. In the case of EUR/USD, 1 pip is the same as 0.0001.
Pip value = 0.0001/1.20*100,000 = 8.333 Euro
Pip value for accounts denominated in USD
Many trading accounts are denominated in US dollars. Whenever the USD is listed second in a currency pair and the account is denominated in US dollars, the pip value does not change.
In such a case, a standard lot has a pip value of $10; a mini lot has a pip value of $1; and a micro lot has a pip value of $0.1. This applies to each currency pair as long as the USD is listed second. Here are some examples: EUR/USD, AUD/USD, GBP/USD, NZD/USD.
If the USD is the base currency (listed first in the currency pair), simply use the formula that was mentioned above. Let's say that you are trading a standard lot of the currency pair USD/CAD. As you can see, the USD is listed first in this case. Assuming that the exchange rate of USD/CAD is 1.25, the pip value in US dollars would be 10/1.25 = $8. Below you can see how to calculate the pip value for mini lots and micro lots.
Pip value for standard lots = 10/ (USD/XXX)
Pip value for mini lots = 1/ (USD/XXX)
Pip value for micro lots = 0.1/ (USD/XXX)
Pip value for accounts not denominated in USD
Let's assume you have an account denominated in Canadian dollars. Each time you trade a currency pair with the Canadian dollar listed second, the pip value remains fixed. In such a case, a standard lot has a pip value of CAD$10; A mini lot has a pip value of CAD$1; and a micro lot has a pip value of CAD$0.1.
What happens if the Canadian dollar is listed first, like in the case of CAD/CHF? You get the pip value by dividing the fixed rates from above by the exchange rate. Let's assume the exchange rate of CAD/CHF is 0.8. So what is the pip value for a micro lot? It will be CAD$0.1/0.8 = CAD$0.125. You can do the same for standard lots and mini lots.
Pip value for standard lots = 10/ (CAD/XXX)
Pip value for mini lots = 1/ (CAD/XXX)
Pip value for micro lots = 0.1/ (CAD/XXX)
What if the currency pair now has CAD as the base currency and JPY as the quoted currency (CAD/JPY)? Let's show an example: Let's say the exchange rate for CAD/JPY is 90.00. What would be the pip value for a standard lot in this case?
We will use the formula discussed above, but will then multiply the result by 100.
Pip value for 1 standard lot of CAD/JPY = 10/ (CAD/XXX)*100
You can use this process for other currencies like EUR or even the Australian dollar.
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