Most currency pairs are measured to four decimal places, with the exception of pairs involving the Japanese Yen (JPY) as the counter currency.

For JPY pairs, a pip signifies a 0.01 movement in the exchange rate. In other words, it is read to two decimal places, rather than four.

This is because the Yen was traditionally a less freely-traded currency compared to major currencies like the US Dollar or British Pound Stirling.

This lower level of trading activity meant smaller price movements were more common for JPY pairs.

Pips allow traders to precisely track and measure even the slightest fluctuations in currency values.

This is crucial, because forex markets are highly sensitive, and even minor movements can impact potential profits or losses.

What are pipettes?

While pips are the standard unit, some brokers such as MarketMates use pipettes, which represent an even smaller movement of 0.00001.

For example, if the EUR/USD exchange rate moves from 1.25000 to 1.25001, it has increased by one pipette.

This increased precision can be beneficial for certain trading strategies, particularly those involving scalping.

However, pipettes are less commonly used compared to pips.

What are points:

It’s important to distinguish between pips and points. A point in forex trading historically referred to a 1% movement in an exchange rate.

This unit is no longer widely used in the modern forex market, as pip-based measurement offers greater precision for most currency pairs.

What is the significance of pips in forex trading?

Everything to do with forex trading revolves around pips, so it’s vital to understand what they are before you start trading.

Understanding pips is fundamental for several reasons:

• Accurate calculations: Pips ensure precise measurement of price movements, enabling accurate calculations of profit and loss in your forex trades. They determine the value of each price movement and help you assess the potential gains or losses in a trade
• Risk management: By understanding pip values, you can effectively manage risk by setting stop-loss orders at specific pip levels to limit potential losses
• Market analysis: By analysing historical pip movements, traders can identify trends and potential future price movements
• Trading strategies: Pip values influence trading strategies. For example, scalping strategies benefit from the smaller pip movements in JPY pairs

What are pips used for?

Traders can use pip movements to:

• determine their entry and exit points
• set stop-loss and take-profit levels
• manage their trade risk through smart position sizing

Calculating pip value

The monetary value of a pip depends on the currency pair being traded, the size of the trade, and the exchange rate.

The formula to calculate pip value is:

Pip Value = (Pip in decimal places * Trade Size) / Exchange Rate

For example:

In a EUR/USD trade with a lot size of 100,000 units, and an exchange rate of 1.2500, the pip value would be calculated as follows:

(0.0001 * 100,000) / 1.2500 = $8 per pip.

What is a pip worth in my currency?

In the global forex market, trading accounts can be denominated in various currencies according to the trader’s preference.

Here’s how to convert the pip value to your account currency:

1. Confirm your account currency:

Before you start any calculations, confirm the currency your trading account is denominated in (e.g., SGD, USD, EUR, AUD etc).

2. Confirm the pip value:

Through your broker’s platform, determine the pip value for the currency pair you’re trading (e.g., 0.0001 for most pairs, 0.01 for JPY pairs)

3. Conversion calculation:

The conversion process hinges on whether the ‘found pip value’ currency matches your account currency or the base/counter currency in the exchange rate you’ll use.

Here’s a breakdown for each scenario:

Scenario A: Matching currencies

If the ‘found pip value’ currency is the same as your account currency, no conversion is needed.

The pip value you found directly applies to your account (e.g., 0.0001 pip value for EUR/USD in a EUR-denominated account)

Scenario B: Converting to counter currency

If you’re converting the pip value to the counter currency in the exchange rate you have, simply divide the ‘found pip value’ by the corresponding exchange rate:

Pip value in your account currency = Found pip value / Exchange rate (your account currency / counter currency)

Example:

• Found pip value (GBP/JPY): 0.813 GBP per pip
• Account currency: USD
• Exchange rate (GBP/USD): 1.5590
• Pip value in USD = 0.813 GBP / (1 GBP / 1.5590 USD) = 1.2674 USD per pip

Scenario C: Converting to base currency

If you’re converting the pip value to the base currency in the exchange rate you have, multiply the ‘found pip value’ by the conversion exchange rate:

Pip value in your account currency = Found pip value * Exchange rate (your account currency / base currency)

Example:

• Found pip value (USD/CAD): 0.98 USD per pip
• Account currency: NZD
• Exchange rate (USD/NZD): 0.7900
• Pip value in NZD = 0.98 USD * (1 NZD / 0.7900 USD) = 1.2405 NZD per pip

Final thoughts…

Mastering the concept of pips is essential for success in forex trading.

Pips serve as the building blocks for calculating profits, losses, and managing trades effectively.

Understanding their significance, calculating their value, and applying them in your trading strategies can significantly enhance your performance and overall success in the forex market.

Till next time, happy trading!