A pip is a unit of measurement that indicates the smallest change in value between two currencies. The term “pip” stands for Price Interest Point or Percentage in Point.
Pips are quoted to either four or two decimal places. Most currency pairs pip movement are in the fourth decimal place with an exception to currency pairs that include the Japanese Yen (JPY) that move in the second decimal place. For example;
- If GBP/USD moves from 1.4250 to 1.4251, then we say that the price has moved by one pip (0.0001). In this situation, the movement is in the fourth decimal place. Also, if the price moves from 1.4251 to 1.4295, then it has risen by 44 pips.
- In EUR/JPY, when the price moves from 130.40 to 130.41, then the price has increased by one pip (0.01) in the second decimal place. Secondly, if the price moves from 130.41 to 130.10, then it has dropped by 31 pips.
Suppose we trade the currency pair EUR / USD, the current rate is 1.2712. We predicted that there will be a growth and opened a buy position. Our prediction was correct, the rate grew and reached 1.2713. There was a 1 Pip movement that occured.
In the Forex market, knowing the value of a pip helps a trader in managing risk in their trades. This is because it enables the trader to prepare on how much risk he/she is willing to take when investing. Moreover, traders can know how much they stand to gain or lose in their trades.
Commonly knows as a “point”, also known as a pipette, a fractional pip is a tenth of a pip. Here, a fifth and a third decimal place are added to the currencies’ exchange rates.
- In EUR/USD, instead of the price being quoted as 1.2000, it is quoted as 1.20005. The 0.00005 movement means the price has increased by 5 points.
- In GBP/JPY, the price is quoted to 3 decimal places when a point is being applied. For instance, the price moves from 151.455 to 151.454. This means the price has dropped by one point.
It takes 10 points (pipettes) to make one pip.
How to Calculate the Value of a Pip
Some of the factors that influence the value of a pip include; the currency pair being traded, the position size, and the currency exchange rate.
The formula for calculating a pip value is;
Value of pip= (1 Pip / Exchange rate) * Position size 1 pip=0.0001
You buy a standard lot of EUR/USD at 1.1640. You close the position at 1.1670 with a profit of 30 pips. To find out the profit made, you need to calculate the value of the pip. Here is how you do it.
Value of pip= (0.0001 / 1.1640) * 100000 = EUR 8.591 or (USD 10 when converted using 1.1640).
Each pip is worth USD 10. Therefore, the profit will be (30 pips * 10) = USD 300
A pip calculator’s function is to calculate the value of a pip in the currency you’re using to trade with. It is important to note that the value of pips differs between different currency pairs.
How to Use a Pip Calculator
The awesome thing is that Forex brokers provide pip calculators where you fill in some details and the pip value is automatically calculated for you!
From the calculator above, you can see the details to fill in.
- Account Currency. This is the currency you’re trading with.
- Currency pair. This represents the financial instruments listed in the pip calculator.
- Position size. Here, the trader chooses the position size he/she wants to trade with.
- Price of pip. This is where the value of the pip will be indicated after the calculation.
Other calculators may show additional fields such as Type (example below) where you choose the financial instrument from a list available like Forex, currencies, metals or commodities.
Examples When Using the Pip Calculator
In this example, we will select the USD as the account currency. The currency pair will be EUR/USD and the position size is one.
From the results of the pip calculator above, the value of a pip for EUR/USD is 10.
The value of a pip, in this case, is 9.66. This shows that the value of a pip varies in different currency pairs.
It is important to understand what pips are, and through pip calculators, traders can find out the pip values of currency pairs. As a result, traders can better manage the risks involved and the capital they are willing to invest.