What are Pips in Forex and How to Calculate Them

In forex or FX, pips refer to the unit in which a currency pair's value and price movements are measured. Pip in forex stands for percentage in points and represents the lowest amount a forex pair can move by. Most pairs are priced to four decimal places, meaning a 0.0001 move equals one pip.

Although it can be challenging to understand pips in forex, doing so is vital as it's the typical way trading profits are measured. For example, it's common to hear people discuss how they stand to capture a certain amount of pips in an FX trade.

We have another guide discussing forex trading for beginners that's a good read for people wishing to understand the forex market in a broader context.

Examples of Pips

As we touched on, pips in forex represent the smallest possible price movement, which is $0.0001 for forex major pairs (USD-denominated). However, to calculate the USD pip value, traders must also consider the size of a trade and, for non-USD-denominated pairs, the exchange rate.

With this in mind, it's crucial to calculate the value of a pip before you place a trade, regardless of whether you're trading major forex pairs like GBP/USD or minor pairs like NZD/CHF. Neglecting to do so will make it challenging to calculate the size of a movement and your risk versus reward ratio.

For most forex currency pairs, the fourth decimal place will equal one pip. For example, a rise from $1.2575 to $1.2580 in the GBP/USD equals a five-pip move. However, the second decimal place is used to calculate pips for JPY-denominated assets.

Due to their high volume and popularity, some of the best currency pairs to trade for beginners include:

• EUR/USD
• USD/JPY
• GBP/USD
• AUD/USD
• USD/CAD

Different Types of Forex Pips Explained

While we've explained that the value of a pip can vary, it's also essential to understand the different pip types.

• Standard pips tend to represent the fourth decimal place of a forex pair.
• Fractional pips or pipettes represent one-tenth of a standard pip, usually the fifth decimal place.
• Japanese pips are used in JPY-denominated pairs and represent the second decimal place because Yen has a much lower value per unit than other currencies.
• Mini pips are non-standardized units smaller than regular pips that people commonly use in mini trading lots.

Why Pips Matter in Forex

Understanding the definition of pips and being able to calculate and use them in daily trading activities helps people better understand the market, their potential profits, and the amount they're risking. Without having forex pips explained, it's easy to lose more than expected if a trade goes awry.

Most forex pairs must move by at least 0.0001 of their respective currency. However, because traders' lot sizes (the size of a trade) vary, the amount they stand to earn per 0.0001 move will vary in USD terms. As such, calculating the value of a pip and the number of pips a trade could capture is crucial.

Forex pip size plays a vital role when it comes to profit-taking levels. Instead of targeting a gain of a certain percentage, traders can opt for a fiat target. For example, if the trader calculates that each pip equals $10, they can set a take-profit order at ten pips from the current price to achieve a $100 target.

Similarly, understanding currency trading pips is vital in risk management. By knowing the value of a pip with respect to your trade, you can ensure your losses stay within an expected range. The best forex trading strategies involve setting stop-loss orders to minimize potential losses.

Calculating A Pip

Now that we've explained the definition and importance of a pip in forex, it's time to discuss how to calculate a pip. While it can seem daunting as traders are required to consider several factors (the pair being traded, lot size, and exchange rates), anybody can do it once they understand the process.

When you want to calculate pips in forex, the first step is considering which asset you're trading. Most forex currency pairs are priced to four decimal places, with the final decimal representing one pip. However, JPY-based pairs only go to two decimal places.

Once you know how many decimal places represent one pip, it's easy to calculate the size of a move in terms of pips. If a USD pair, like GBP/USD, moved from $1.2628 to $1.2700, this would represent a 72-pip move. For USD/JPY, a rise from 151.03 to 151.10 JPY is a seven-pip move.

You can calculate the value of a pip using the size of your trade. When trading a USD pair that uses four decimal places, multiply the trade size by 0.0001. So, one pip in a $10,000 trade would equal $1.

If you're trading a non-USD-denominated pair, you'll need to include the exchange rate in your calculation. The process is simple: divide the pip decimal by the exchange rate. So, if a pip were valued at £10, it would equate to $12.60 at an exchange rate of £1 to $1.26.

Secret to Quickly Calculating Pips

There is a simple formula that enables people to quickly calculate pips in forex, regardless of the base currency. However, you need to know the forex trading lot size beforehand.

• Trade Size x Pip Decimal = Pip Value
  So, a $100,000 trade using USD where one pip = $0.0001 would equal a $10 lot size.
  However, you can alter the pip value calculation formula for non-USD-denominated pairs.
• Trade Size (Pip Decimal / Exchange Rate) = Pip Value
  Say you open a USD/ZAR trade of 100,000 ZAR where the USD/ZAR exchange rate is 18.2. The equation to determine pip value would be 100,000(0.0001 / 18.2), which gives a value of $0.5494.

Summary

Throughout this article, we've explained forex pips, discussed their use in trading, provided a simple pip calculation formula, and shared some of the best forex pairs to trade.

Pips are a vital tool in the arsenal of any forex trader. They help to determine potential profits or losses and can put foreign currency pairs in the context of USD or another local currency.

FAQs About Pips

Where Can I Trade Forex?

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How to Use Pips in Forex Trading?

Pips in forex trading are used to help people understand the profits/losses they could earn. As such, pips are essential for people who analyze forex charts to determine profit targets and develop a forex strategy for risk management.

What Makes The Value Per Pip Change?

The value of pips in forex is determined by your trade size and the base currency of the currency pair. A larger trade size will equate to a higher value per pip.

What Is The Difference Between Stock Market Pips and Forex Pips?

Regardless of what market you're trading, a pip remains a measure of price. While not commonly used in the stock market, a pip still represents the minimum price movement, usually $0.01, compared to $0.0001 in the most traded forex pairs.