2 May 2024 - 10min Read

Forex trading

What is a pip in forex trading?

A pip, an acronym for percentage in point or price interest point, is a way to measure the smallest price movement between a currency pair in the forex market.

Pips are used to determine the interest rate changes for currency pairs. It’s also used to determine the spread between a currency pair’s ask (buy) and bid (sell) price.

Traders also use pips to determine their profit or losses in correlation to the position size they opened.

Throughout this article, we’ll take a closer look at what defines a pip and why it might be necessary for traders to better understand how it works.

TABLE OF CONTENTS

Key takeaways

  • A pip, which is short for percentage in point or price interest point, measures the smallest movement in price for a currency pair occurring at the fourth decimal place.
  • In JPY pairs, where JPY is the quote currency, the measurement in price movement occurs at the second decimal place.
  • Pips are used to determine the exchange rate for currencies, determine the spread, and also assist in calculating profits and losses.
  • The value of a pip is generally 1/100th of one cent; however, the value can fluctuate due to various factors, such as the currency you might be using to trade with and your position size.
  • Lot sizes will also determine the overall value of a pip, with different lot sizes resulting in different pip values.
  • A pipette is smaller than a pip, worth 1/10 of a pip and occurs at the fifth decimal place.

What is the definition of a pip?

As stated above, a pip is a single unit of price movement in the exchange rate of a currency pair. This price change happens at the fourth number after the decimal within the listed price.

For example, let’s say EUR/USD is trading at 1.0534, and it moves up towards 1.0535 it has moved up one pip.

Now, pip movements are the same throughout all currencies except for certain currency pairs; for instance, with JPY, when the Yen is the quoted currency, the change will happen at the second number after the decimal point.

The reason for this is that the value of the Japanese Yen is much less than those of other major currency pairs.

For example, if USD/JPY trades at 153.01 and moves up towards 153.02, it has moved up one pip.

What is a pip in forex trading

How to use pips in forex trading?

In the forex market, currencies are always listed in pairs, with the first being the base currency and the second being the quote currency. The base currency always has a unit of one.

The amount listed under the quote currency states how much is needed to buy one unit of base currency. That amount is known as the exchange rate, and any changes, whether up or down, are measured in pips occurring at the fourth decimal place.

The only exception, as mentioned, is when JPY is the quoted currency within a pair; then, the change happens at the second number after the decimal.

When trading forex, a trader can use pips in a couple of ways; for most, it’s calculating their profits and losses after a trade. Now, the number of pips a position moves is not the exact amount of profits or losses; that will all depend on the size of the position.

So, for example, if you were to open a long (buy) position on EUR/USD at 1.0534 and it moves up 20 pips to 1.0554 in your favour, you could close your trade and take a profit. However, if it moves against you by 20 pips from 1.0534 to 1.0514 and you close the position, you’ll have to deal with a loss.

As mentioned, the exact amount you could gain or lose will depend on your position size. We’ll look at some examples later to tie everything together.

What is the value of a pip?

In general, a pip is worth 1/100th of one cent. However, the value of a pip will also change during the trading day because the price on the spot market is constantly changing due to a currency’s value fluctuating.

You might also want to consider other factors, such as the currency pair/s you might be trading, the size of your position, the currency you might be trading in, and the current exchange rate.

In the next section, we’ll look at some of those factors that could influence the change of a pips value in more detail.

What determines the value of a pip to change?

In forex trading, positions are opened through lots. Lots are standard units of measurement to increase the value of a currency pair when trading. 

This is because price movements in the forex market are generally relatively small.

Different lot sizes will provide you with a different pip value. Now, to keep things straightforward, let’s say that for a lot size of 10,000 units, the value of a single pip will be equal to $1.

With this in mind, the value of a pip will increase or decrease depending on the size of the lot you might want to use. Such as:

  • A micro lot of 1000 units will have a pip value of 10 cents.
  • A mini lot of 10,000 units will have a pip value of $1.
  • A standard lot of 100,000 units will have a pip value of $10.

This is just to give you a basic idea of how the value of a pip could change in correlation to the lot sizes you might want to use in your trading.

What determines the value of a pip to change

How do you calculate the value of a pip?

Most forex brokers will be able to provide you with a pip calculator within the platform; however, for those who don’t have that option, to calculate a pip’s value, you’d multiply the position size by the standard pip value, which is 0.0001. You’d then divide that amount by the spot price.

The formula will look like this:

(0.0001 x position size) / exchange rate = pip value

How do you calculate the value of a pip with JPY executions?

As previously mentioned, currency pairs with JPY as the quote currency will see a single pip movement occurring at the second number after the decimal point. The calculations for these pairs will be as follows:

(0.01 x position size) / exchange rate = pip value

Example of using a pip in forex

Now, let’s look at two examples of these calculations in action, first with EUR/USD and second with USD/JPY.

Example with EUR/USD

Let’s say, for example, you’re looking to open long (buy) a position on EUR/USD trading at 1.1501 worth $40,000. To get the pip value, we’ll use the calculation mentioned above:

(0.0001 x $40,000) / 1.1501 = $3.48

The value of a single pip move will then be $3.48.

If the market moves in your predicted direction by ten pips from 1.1501 to 1.1511, you would’ve made a profit of $34.80. To calculate the profits, multiply the number of pips it moved by the value of a single pip (10 pips x $3.48 = $34.80).

However, if it moved against you by ten pips, you would’ve made a loss of $34.80; the calculations will stay the same by taking the number of pips moved against your prediction multiplied by the value of a single pip (10 x $3.48 = -$34.80).

Example with USD/JPY

Let’s say you were looking to open a long (buy) position on USD/JPY trading at 140.05 worth $40,000. We can use the formula mentioned above for JPY pairs to calculate the value of a single pip move.

(0.01 x $40,000) / 140.05 = $2.86

A single pip move for this pair will be $2.86.

Now, the trade was successful and moved in your favour by ten pips from 140.05 to 140.15, giving you a profit of $28.60. To calculate the profits, you’d multiply the number of pips the market moved in your favour by the pip value (10 x $2.86 = $28.60).

However, if the trade moved against you by ten pips from 140.05 to 139.95, you would’ve made a loss of $28.60. You’ll use the same formula for calculating losses as you would for calculating profits (10 x $2.86 = -$28.60).

What is the difference between a pip and a pipette?

We saw that a pip is the smallest movement a currency pair can make, occurring at the fourth number after the decimal point and the second number after the decimal point for pairs with JPY as the quote currency.

Now, most trading brokers have been able to provide traders with price information quoting currencies to the fifth decimal place and third decimal place for JPY pairs. These fifth decimal place pip movements are called pipettes.

Now, if a pip is worth 1/100th of one cent, a pipette is worth 1/10 of a pip.

The difference between a pip and a pipette

Let’s look at an example:

  • EUR/USD is trading at 1.1501 and moving towards 1.1502; that’s a one-pip move. However, now you’ll see EUR/USD trading at 1.15012, and when it moves up towards 1.15013, it has moved up one pipette.
  • With USD/JPY, it’s trading at 140.01 and moves towards 140.02, moving up one pip. However, now you’ll be able to see it trading at 140.013, and when it moves towards 140.014, we can say it has moved up one pipette.

What is the connection between the spread and pips in forex trading?

Three amounts are always present when trading currency pairs: the ask (buy) price, the bid (sell) price, and the spread. The ask price will always be slightly higher than the bid price, and the spread is the difference between these two prices.

The ask price is the price you look at when you want to open a long (buy) position, and the bid (sell) price is the one you’ll look at when you want to open a short (sell) position.

The spread, on the other hand, can be seen as the transaction cost to execute a trade and compensation that goes towards the broker.

The spread will usually only be a couple of pips, so calculating it will be easy if it isn’t present on your trading platform.

Let’s say EUR/USD has an asking price of 1.1062 and a bid price of 1.1060; the spread between these two prices will be two pips (1.1062 – 1.1060 = 2 pips).

People also asked

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Pips are the fundamental unit of measurement for price movements between currency pairs in the forex market. It refers to the smallest movement price can make, occurring at the fourth number after the decimal.
Pips are also used to calculate the potential profits and losses more accurately. Pips are also helpful when placing stop-loss orders, allowing traders to calculate the best position to place these orders for when the market could move against them.

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Leverage doesn’t affect the value of a pip. However, it does affect the size of the position you’re able to open. With higher leverage, you’re able to open a bigger position with only a small amount of investment capital called margin.
If you’re trading a currency pair where USD is the quote currency, the standard lot size is 100,000 units with a pip value of $10.
So, if you’re using a leverage ratio of 50:1, for example, you’re able to open a position size of one standard lot at $500,000 with only $10,000 margin capital. This will increase the pip value from $10 to $50.
As you can see, the value of a pip will be determined by the lot size and not the leverage ratio you could be using.

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The value of one pip is worth 1/100th of one cent. However, with different lot sizes the value will change. For a standard lot, which is 100,000 units, the pip will be worth $10. For a mini lot, which is 10,000 units, the value of a pip will be $1. For a micro lot, which is 1000 units, the value of a pip will be 10 cents.

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In order to get the currency value of a pip, you’ll need to take the standard value of a pip, which is 0.0001, multiply it by your trades’ position size and then divide that by the spot price/ exchange rate.
For example, if you were looking to open a trade on EUR/USD trading at 1.1200 at a value of $10,000, you’ll take 0.0001, multiply by $50,000, and divide that by 1.1200 [(0.0001 x $50,000) / 1.1200 = $4.46] giving you a pip value of $4.46.