As a forex trader, understanding the different terminologies used in trading is crucial. One of the terms that traders come across is the pip. A pip is a unit of measurement used to determine changes in the value of a currency pair in the forex market. In this article, we will delve deeper into what a pip is and how it is used in forex trading.
What is a pip in forex trading?
The term pip stands for “percentage in point” or “price interest point.” It is the smallest unit of measurement in forex trading, representing the fourth decimal place in most currency pairs. The exception to this rule is the Japanese yen, which is quoted to two decimal places. In this case, the pip is the second decimal place.
For example, if the EUR/USD pair moves from 1.1200 to 1.1201, it has moved one pip. If it moves from 1.1200 to 1.1300, it has moved 100 pips.
Why is the pip important in forex trading?
The pip is important in forex trading because it determines the profit or loss of a trade. When trading a currency pair, forex traders aim to make a profit by buying a currency at a low rate and selling it at a higher rate. The difference between the buying and selling price is known as the spread.
The spread is usually expressed in pips. For example, if the spread for the EUR/USD pair is two pips, the buying price might be 1.1200, and the selling price might be 1.1202. If a trader buys the EUR/USD pair at 1.1200 and sells it at 1.1202, they make a profit of two pips.
Calculating the pip value
The pip value is the monetary value of a pip in a trade. This value is essential for forex traders because it helps them determine their risk and reward when entering a trade.
The pip value is calculated by multiplying the position size by the pip value per unit. The position size refers to the number of units of a currency pair that a trader is trading.
For example, if a trader is trading the EUR/USD pair with a position size of 100,000 units, and the pip value for the pair is $10, the pip value for the trade would be $10 x 100,000 = $1,000.
The pip value varies depending on the currency pair and the currency in which the trading account is denominated. For instance, if a trading account is denominated in USD, the pip value for a currency pair with USD as the quote currency will always be $10 for standard lots, $1 for mini lots, and $0.10 for micro lots.
Conclusion
In summary, a pip is a unit of measurement used in forex trading to determine changes in the value of a currency pair. It is the smallest unit of measurement and is expressed in the fourth or second decimal place, depending on the currency pair. The pip is essential for forex traders because it determines the profit or loss of a trade and helps them calculate the pip value, which is crucial in determining their risk and reward when entering a trade. Therefore, traders should have a good understanding of pips and how to calculate them to make informed trading decisions.
