Pips are a highly significant indicator of potential profits or losses when trading on the forex market. A “pip,” also known as a “percentage in point” or a “price interest point,” is the smallest possible price change in a currency pair.
A pip is the unit of measurement for changes in currency exchange rates, shown by the fourth digit after the decimal point in price quotes. For most currency pairs, such as the British pound/U.S. dollar (GBP/USD), a pip is equivalent to 1/100 of a percentage point, or one basis point.
A pip is one percentage point, and in currency pairs involving the Japanese yen, pips are listed after the decimal point.
To promote international trade and business, currency exchange is required. Such dealings, together with the wagers made by speculators who seek to profit from fluctuations in the value of currency pairs, take place on the foreign exchange market. Costs for foreign exchange transactions are measured in points of interest (pips).
KEY POINT
- Price quotes for foreign exchange transactions are expressed in terms of “pips,” or “percentage in point.”
- Depending on the size of the lot being traded, the value can vary (1,000 vs. 100,000 units, say.)
- The account’s pip value is set according to the currency with which it was initially funded.
- Profit for brokers comes from the little difference (the “spread”) between the selling price and the buying price.
Pips, Pipettes, and Spreads
The value of a pip in a trade might change depending on the size of the trader’s lot. (One hundred thousand is a standard lot, ten thousand is a mini lot, and one thousand is a micro lot.)
The spread is the difference between the bid price (what the seller gets) and the ask price (what the buyer pays) expressed as a number of basis points.
Since most forex brokers do not charge separate charges on individual trades, the spread is where your broker gets their money. The spread is what the broker makes when you buy at the ask price (in this case, 0.9714) and the seller sells at the bid price (in this case, 0.9711). (3 pips).
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After a pip, several forex brokers quote rates to a single decimal point. Pipettes are the increments between pips that allow for more maneuverability in setting prices and adjusting spreads.
Value of a Pip in the US Dollar Market
Many currency pairs have their pip value set in the currency in which your forex trading account was initially funded. A standard lot’s pip value is $10, a mini lot’s is $1, and a micro lot’s is $0.10 if your account is denominated in U.S. dollars.
This applies to currency pairs in which the U.S. dollar is the second, or quote, currency. Only if the value of the US dollar increased or decreased by more than 10% would these pip values change.
To convert from dollars to the quote currency when funding an account in dollars elsewhere, you would divide the normal pip value by the exchange rate between the dollar and the quote currency.
So, if the USD/CAD exchange rate is 1.33119 ($10 divided by 1.3319), the pip value for a standard lot is $7.51.
Pip Values for Other Account Currencies
When a currency other than the U.S. dollar is the quote currency, the same pip value amounts apply regardless of the currency used to fund your trading account.
When the euro is the second currency in a pair, for instance, the value of a pip in a Euro-denominated account will be 10 euros for a standard lot, 1 euro for a mini lot, and 0.10 euros for a micro lot.
To convert pip values for pairs where EUR is not the quote currency, simply divide the standard value by the difference in value between the EUR and the quote currency.
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Changes in pip levels during trades
Say you’re trading the euro/British pound (EUR/GBP) and the bid price is 0.8881 and the ask price is 0.8884. You think the value of the euro will rise against the pound, so you buy a standard lot of euros at the ask price of 0.8884.
Late in the trading day, the bid price is 0.8892 and the ask price is 0.8894. You sell for 0.8892, which is the bid price. You moved up 8 pips. If you have pounds in your account, you made £80 on the trade.
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