What is a Pip in Forex Trading? | How Pips Work
If you have just started trading currencies, you may have heard a lot about Forex pips value. It is one of the important concepts that play a critical role in defining a successful trading strategy.
But exactly what is a pip in Forex? How do pips work? And, most importantly, how to calculate pip value? We’ll answer these questions here.
What is a Pip in Forex Trading?
Short for Percentage in Point, a pip is the smallest change in value in the currency pair. It is used in the foreign exchange market to calculate the change in value from one currency to another.
For currency pairs with JPY as term currency, one pip is 0.01 (two decimal places). For other currency pairs, one pip is 0.0001 (four decimal places).
Many Forex traders calculate their profits in pips; meaning, they reference their gains in pips.
While the trades that are positive in pips reflect profits, those negative in pips underline losses.
Before moving forward, there’s one more term that you may come across often in the present context: Fractional pip, which is also known as pipettes or points. A fractional pip is a tenth (1/10) of a pip. It helps view currency pairs to five decimal places, thereby providing a more precise picture of price movements.
How Pips Work?
Let’s take a practical example to understand how pips work…
You want to trade in EUR/USD currency pairs, where EUR is the base currency and USD is the quote currency.
The current EUR/USD exchange range is 1.1935. This means with 1 Euro you can get 1.19330 USD. Let’s assume this exchange rate changed to 1.19390. So, now 1 Euro gets you 1.19390 USD, a little more than what you got earlier. The increase in size is 50 pips. So, if you had traded, you would have made a gain of 50 pips.
Let’s take another example of the USD/JPY pair, Yen-based currency pairs are displayed to two decimal places. In the USD/JPY pair, USD is the base currency and JPY is the quote currency.
The current USD/JPY exchange rate is 110.78. This means with 1 US Dollar you can get 110.78 Japanese Yen. Let’s assume this exchange rate changed to 110.85. So, now 1 USD gets you 110.85 JPY, a little more than what you got earlier. The rise in value is 7 pips. So, if you had traded, you would have made a gain of 7 pips.
How to Calculate Pip Value?
Pip is basically the change in value between two currencies. You calculate by how much the currency pair’s value has changed and then map it to four decimal places (or two decimal places if you’re dealing with a pair that includes JPY).
Coming to how to calculate the worth of each Pip, the formula is:
(Pip / Exchange price) x Lot sizes in units = Value per Pip
Of course, you now don’t have to calculate Forex pip values manually. You can use a pip calculator for that.
