Forex trading is an exciting and challenging activity that requires a thorough understanding of various concepts and terminologies. One of these essential concepts is pips, which stands for “Percentage in Point.” Understanding pips is crucial for forex traders as it determines the profit or loss they make on a trade. In this article, we will explain what pips are, how to read them, and their significance in forex trading.
What are pips?
Pips are the smallest unit of measurement in forex trading. They represent the fourth decimal place in a currency pair price, except for Japanese yen (JPY) pairs, which represent the second decimal place. For example, if the EUR/USD currency pair is trading at 1.2345, and the price moves up to 1.2346, this would be a one pip increase. Similarly, if the price moves down to 1.2344, this would be a one pip decrease.
Pips are essential because they determine the profit or loss on a trade. The value of a pip depends on the size of the trade, the currency pair being traded, and the exchange rate at the time of the trade. Most forex brokers offer a pip calculator on their trading platforms to help traders determine the value of each pip in their trades.
How to read pips?
Reading pips is simple and straightforward. As mentioned earlier, pips are the fourth decimal place in a currency pair price, except for JPY pairs, which represent the second decimal place. Let us take the EUR/USD currency pair as an example.
If the EUR/USD currency pair is trading at 1.2345, and the price moves up to 1.2346, this would be a one pip increase. Similarly, if the price moves down to 1.2344, this would be a one pip decrease. Therefore, the price movement in forex trading is measured in pips, and traders use this measurement to determine their profit or loss.
Significance of pips in forex trading
Pips are significant in forex trading because they determine the profit or loss on a trade. To understand this, we need to know the concept of leverage. Forex brokers offer leverage to traders, which means that traders can control a more significant amount of currency with a smaller amount of capital. For example, if a trader has a $1,000 trading account and a broker offers a leverage of 1:100, the trader can trade up to $100,000 worth of currency.
Let us take an example to understand the significance of pips in forex trading. Suppose a trader buys 1 lot of EUR/USD at 1.2345 and sells it at 1.2355, making a profit of 10 pips. If the trader’s account currency is the US dollar, the profit in dollars would be calculated as follows:
Profit = (10 pips x 1 lot) / 1.2355 = $8.09
Therefore, the trader would make a profit of $8.09 on this trade. If the trader had bought 10 lots of EUR/USD, the profit would be ten times more significant, i.e., $80.90.
Conclusion
In conclusion, pips are a crucial concept in forex trading that determines the profit or loss on a trade. Pips are the fourth decimal place in a currency pair price, except for JPY pairs, which represent the second decimal place. Understanding pips is essential for forex traders as it helps them determine their profit or loss on a trade. Most forex brokers offer a pip calculator on their trading platforms to help traders calculate the value of each pip. Therefore, traders must understand the concept of pips and their significance in forex trading to make informed trading decisions.
