What is Pip in forex? Tiny Giant That Moves Markets

Ever wondered how much a currency can really move? That’s where pips come in! 

In the fast-paced world of Forex trading, a pip is the smallest standardized unit of measurement for price changes. It’s like a tiny heartbeat of the market. 

Understanding the Pip: 

A pip represents the smallest standardized unit of change in a currency pair’s exchange rate. For most major pairs, it’s the fourth decimal place. 

 Exception:  

For USD/JPY, a pip is the second decimal place due to the Japanese Yen’s unique pricing structure. 

 Example: 

 If the EUR/USD moves from 1.1800 to 1.1801, that’s a one-pip movement. 

Why do pips matter?  

• They’re the key to calculating your profits and losses. Every pip movement, no matter how small, can add up, especially when you’re trading with leverage. 

• They are the standard unit of measurement for price changes in the foreign exchange market. Their significance stems from the highly liquid nature of the FX market, where small price variations can lead to substantial profits or losses. 

• High Accuracy: With frequent and often small price movements, pips provide a precise way to track and analyze price changes. This accuracy is crucial for traders to effectively manage their positions and make informed trading decisions. 

 Pips limitations: 

• Hyperinflation: During periods of hyperinflation, currencies experience rapid and extreme devaluation. This volatility can lead to significant price fluctuations that exceed the typical range captured by pips. 

• Limited Applicability: Pips may not be suitable for all types of financial markets or instruments. 

What is a Pip in Forex?  

In the Forex market, the smallest change in price is called a “pip”. 

For most major currencies, a pip is a movement of 0.0001 (for example, from 1.4000 to 1.4001 in GBP/USD). 

For Japanese Yen pairs (JPY), a pip is 0.01 (for example, from 150.00 to 150.05 in GBP/JPY). 

Pip and traders: 

• Traders use instruments such as CFDs and spread betting to speculate on currency price movements. 

• Each pip movement directly affects their profit or loss, depending on the accuracy of their predictions. 

Pip and brokers: 

• The bid-ask spread, which is the difference between the price at which a broker buys (bid) and sells (ask) a currency, is crucial. This spread, measured in pips, is the broker’s profit on each trade. 

• In fast-moving markets, traders often ignore large price figures to speed up trades. However, this practice can lead to execution errors, especially in voice trades. Therefore, experienced traders always confirm the full price with their counterparties to ensure that both parties are on the same page. 

For example, if we look at an example EUR/USD quote of 1.1009/14, the bid/offer spread is 5 pips, or 5 basis points. 

While the bid/offer 1.1009/14 in entirety, a spot FX trader via a voice trade may quote the pips as “09-14” and the counterparty is expected to know the rest. 

How are Pips Used in FX Markets? 

• A pip represents the smallest unit of change in a currency price. For most currency pairs, a pip is the fourth decimal place (e.g., 0.0001). 

• Traders use pips to track their profits and losses. If you bought a currency pair at 1.1356 and sell it at 1.1360, you made a profit of 4 pips. 

• The value of each pip varies depending on the currency pair and your trade size (lot size). 

• To calculate your profit or loss in dollars, you need to determine the value of one pip and multiply it by the number of pips gained or lost and your lot size. 

Pips and Profitability: 

The movement of the currency pair’s exchange rate determines whether a trader will make a profit or a loss at the end of the day. A trader who buys the EUR/USD pair will make a profit if the EUR increases in value relative to the USD. If the trader buys the EUR at 1.1835 and exits the trade at 1.1901, he will make a profit of 66 pips on the trade (1.1901 – 1.1835). 

Now, let’s say the trader buys the Japanese Yen by selling the USD/JPY pair at 112.06. The trader loses three pips on the trade if the position is closed at 112.09. He gains five pips if the position is closed at 112.01. 

While the difference may look small, in the multi-trillion-dollar foreign exchange market, gains and losses can quickly add up. For example, on a $10 million position that closed at 112.01, the trader would make ¥500,000. In US dollars, that’s $4,463.89 (¥500,000 / 112.01). 

What is a Pipette?  

A pipette is a fractional unit of a pip in Forex trading, usually the fifth decimal place.So, when a Pip is the fourth decimal place (e.g., 0.0001).    

Then A pipette is one-tenth of a pip, represented by the fifth decimal place (e.g., 0.00001). 

But In forex trading, a “pipette” isn’t a tiny straw, but the smallest change in a currency pair! It’s like zooming in on the price to see the tiniest movements.  

Traders use pipettes to measure even the most subtle shifts in the market, giving them a competitive edge.  

Why are pipettes important? 

• Increased accuracy: Pipettes allow for more accurate measurement of price movements, especially in volatile markets or when dealing with high-frequency trading strategies.    

• Smaller Profit/Loss Targets: Traders can set more precise profit targets and stop-loss orders based on pipette movements. 

Example: 

If the EUR/USD moves from 1.12345 to 1.12346, this is one pipette move. 

What is the difference between a Pip and a Pipette? 

In forex trading, price movements are measured in small increments. 

• Pip: The standard unit, representing a change of 0.0001 in the exchange rate. For example, if the EUR/USD pair moves from 1.1000 to 1.1001, it has moved by one pip. 

• Pipette: A smaller, more precise unit, representing 1/10 of a pip (0.00001). This allows for a more detailed measurement of price movements, especially in highly liquid markets with tight spreads. 

How is the value of a pip calculated? 

Knowing the value of a pip is crucial for making informed trading decisions. But how to Calculate the Value of a Pip ? 

Here’s a breakdown of the calculation: 

Pip value Formula:  

Pip Value = (Pip Size / Exchange Rate) x Trade Size 

•  Pip Size: Typically, 0.0001 for most currency pairs. 

•  Exchange Rate: The current market price of the currency pair. 

•  Trade Size: The number of units you’re trading (e.g., a standard lot is 100,000 units). 

In the following example, we will use a quote with 4 decimal places. 

To better explaining the calculations, the exchange rates will be expressed as a ratio (i.e., EUR/USD currency pair at 1.2500 will be written as “1 EUR / 1.2500 USD”) 

• Example #1: USD/CAD = 1.0200 

To be read as 1 USD to 1.0200 CAD (or 1 USD/1.0200 CAD) 

(The value change in counter currency) times the exchange rate ratio = pip value (in terms of the base currency) 

[.0001 CAD] x [1 USD/1.0200 CAD] 

Or simply as: 

[(.0001 CAD) / (1.0200 CAD)] x 1 USD = 0.00009804 USD per unit traded 

Using this example, if we traded 10,000 units of USD/CAD, then a one-pip change to the exchange rate would be approximately a 0.98 USD change in the position value (10,000 units x 0.00009804 USD/unit). 

We say “approximately” because as the exchange rate changes, so does the value of each pip move. 

• Example #2: GBP/JPY = 123.00 

Here’s another example using a currency pair with the Japanese Yen as the counter currency. 

Notice that this currency pair only goes to two decimal places to measure a 1 pip change in value (most of the other currencies have four decimal places). In this case, a one-pip move would be .01 JPY. 

(The value change in counter currency) times the exchange rate ratio = pip value (in terms of the base currency) 

[.01 JPY] x [1 GBP/123.00 JPY] 

Or simply as: 

[(.01 JPY) / (123.00 JPY)] x 1 GBP = 0.0000813 GBP 

So, when trading 10,000 units of GBP/JPY, each pip change in value is worth approximately 0.813 GBP. 

Finding the Pip Value in Your Trading Account’s Currency: 

• Understand the Tiny Move (Pip Size) 

• Know Your Trading Size 

• Check the Current Price 

• Calculate the Pip Value 

How to calculate pip value? 

Example: 

Currency Pair: EUR/USD 

Current Price: 1.1000 

Trade Size: 1 Standard Lot (100,000 units of EUR)    

Pip Size: 0.0001    

Calculation: Pip Value = (0.0001 / 1.1000) x 100,000 = $9.09 

In this example, each pip movement in the EUR/USD pair would be worth approximately $9.09 for a one standard lot trade. 

Importance of pip value: 

• Understand your risk: as you can see how much money you stand to lose or gain with each price movement. 

•  Manage your trades: as you can make better decisions about how much to trade and how to control your risk.    

What causes pip values to change? 

• The base value of a trader’s account will determine the pip value for many different currency pairs. For a USD-denominated account, which is common among the most traded currency pairs​, if the currency pair has USD as the second currency (quote price), the pip value will always be $10 on a standard lot, $1 on a mini lot and $0.10 on a micro lot. 

• Pip values would only change if USD was either the first (base) currency in the currency pair, or not involved in the pair, and if the value of USD moved significantly by more than 10% in any direction. 

At the end, Pips may seem small, but they are the driving force behind forex trading. By understanding their value and impact, traders can make more informed decisions, manage risk effectively, and increase their chances of success in the dynamic world of currency markets. 

And keep remember, Small Pips, Steady wins.