A pip describes the smallest change that a currency rate makes, and it therefore usually describes the change in the fourth decimal place. The number of pips is the crucial metric in which the profit or loss of a trade is shown.
For most currency pairs visit best online broker south africa , a pip is equal to one hundredth of one percent or one ten thousandth. The USD / JPY rate is a special case here, as the rate is generally only shown with two decimal places. A pip refers to the second decimal place and therefore corresponds to one hundredth of the currency.
Many brokers now offer a further breakdown of the currency rate down to the fifth decimal place in order to benefit from even smaller price movements. The fifth decimal place in this case is often called a pipette.
So a pip also varies on the representation of how the currency is traded. The development is rarely measured in half pip steps. The value of a pip depends on the underlying currencies and can therefore vary widely.
The Pip in practice
To better understand and calculate a pip, let’s take an example:
The rate for EUR / USD is 1.1655. For one euro you get 1.1655 US dollars on the foreign exchange market. If the price changes by one pip, this would be 1.1656 (+0.0001) in the case of a rising euro and 1.1654 (-0.0001) in the case of a falling euro.
The value of a pip relates to the base currency and can be calculated using a simple formula:
Pip as a decimal number / currency rate = the value of one pip
The value of a pip from the example EUR / USD = 1.1655 is therefore:
0.0001 / 1.1655 = 0.0000858 euros
If you now look at the USD / JPY currency pair, it behaves as follows:
USD / JPY = 111.59
The change of one pip in this currency pair corresponds to ± 0.01, so either the price rises to 111.60 or it falls to 111.58. The value of this pip is calculated accordingly:
0.01 / 111.59 = 0.000089614 US dollars or converted: 0.000076888 euros
If you compare the two values of the pips from our examples, you don’t see a particularly large absolute difference.
0.0000858 euros and 0.00007688 euros
Nevertheless, there is a difference in the values of 11.5%, which clearly shows that the values of pips differ greatly depending on the underlying currencies. Since the absolute values of a pip are so small and the usual short-term trades generate profits in the one to low double-digit range, it is of course advisable to trade large amounts.
What is a plumb bob?
In the financial markets, a lot represents a standardized amount of a financial product that is offered for purchase or exchange. The number of currency units that are traded on the foreign exchange market are also known as lots.
With all forex brokers , the trader definitely has the opportunity to trade in the order of magnitude of standard lots. Providers with a larger bandwidth also allow trading in mini or micro lots. The quantities are standardized as follows:
- Standard lot : 100,000 units of the base currency
- Mini lot : 10,000 units of the base currency
- Micro lot : 1,000 units of the base currency
If you open a position, you can of course trade several lots. For example, to get 500,000 units of a currency, buy five standard lots. If you want to trade smaller positions in order to take less risk, make sure that the broker offers mini or micro lots as trading volume.
Let us now come back to our examples. If we multiply the lot size by the value of the pip, we determine the change in value of the position per pip:
- The value of one pip of the EUR / USD currency pair is EUR 0.0000858
- We assume we are trading a standard lot = 100,000 units
- 000 x 0.0000858 euros = 8.58 euros
This value shows which value the position gains or loses if the price rises or falls by one pip. If you keep your trading account in US dollars, you can, of course, simply convert this amount into US dollars:
8.58 EUR x 1.1655 USD / EUR = 10 US dollars.
This result is not surprising, since we have 100,000 times the change in a pip that corresponds to exactly 0.0001 US dollars for the EUR / USD currency pair. Accordingly, a change in the EUR / USD exchange rate by one pip with a trading volume of two standard lots results in a change in the position value of 20 US dollars.
Who pays for the whole thing?
If you haven’t heard of leverage, or the “leverage effect”, you may think you need huge trading capital to australia forex trading with hundreds of thousands of units of currency. Here, however, the broker helps out with what is known as leverage. To open a position from several lots, you only need a small amount on the trading account.
The broker requires this amount as so-called margin, the security deposit. It is only a few percent of the actual trading volume per trade. Depending on which broker you choose, you may be offered different leverage. Typically, leverage in the forex market ranges from 20: 1 to 400: 1.
The leverage results from the required margin and vice versa. For example, if the broker offers a leverage of 100: 1, this means that you only have to have 1% of the trade amount as security on the trading account for a trade. When you buy a lot of EUR / USD you get 100,000 euros for 116,550 US dollars. To do this, however, you only need 1% of the capital, which is $ 1,165.5. This also enables private individuals to trade profitably on the Forex market.
So that the investor cannot lose more than what is available in the best trading platform uk account, a position is automatically closed by the broker if the price development goes so far in the opposite direction of the position until the deposit amount is used up. Often the broker also makes a so-called margin call, which gives the trader the opportunity to increase his security so that the position can be kept open.