PIP (Point in Percentage), the smallest unit of price change in a currency pair. In this post, we’ll cover:

• What is a PIP? We'll provide a clear explanation of a pip and how it differs from a pipette.

• Why does PIP matter? We'll demonstrate the critical role of pips in calculating spreads, profits and losses, understanding market volatility, and managing risk.

• How to Calculate PIP Value? We'll guide you through the simple process of determining the pip value per lot, as well as calculating spreads, profits, and losses.

By the end, you'll have a firm grasp of this fundamental forex concept and be able to apply it to your trading strategies.

What is a PIP?

A Pip, or ‘Percentage in Point,’ is the smallest unit of price movement for a currency pair. A pip is typically a one-digit movement in the 4th decimal place of most currency pairs.

For example, In the EUR/USD pair, if the price moves from 1.08270 to 1.08280, that 0.0001 change in USD is one pip.

However, there’s an exception for pairs involving the Japanese Yen; for JPY pairs, a PIP is a movement in the 2nd decimal place. If the USD/JPY moves from 160.510 to 160.520, that 0.01 change in JPY is one pip.

The Difference Between PIP and Pittete?

Some forex brokers offer quotes with higher precision, extending beyond the standard "4 and 2" decimal places to "5 and 3." These are known as pipettes. A pipette is one-tenth of a pip. For most currency pairs, a pipette is the fifth decimal place (0.00001).  For Yen pairs, a pipette is the third decimal place (0.001).

Here’s a pip map to help you to learn how to read pips, pipettes and their relationships:

Why Does PIP Matter?

1. Spread Calculation

The spread, which is the difference between the bid and ask prices, is typically expressed in pips. Comprehending the movement of pips is essential for evaluating the costs associated with entering and exiting a trade, allowing traders to make more informed decisions about the viability of their trading strategies.

2. Profits and Losses Calculation 

Pips are directly involved in the calculation of a trade's potential profit or loss, as the financial gain or loss depends on the pip value, which is determined by the lot size of the trade. This understanding is crucial for traders to accurately assess the potential outcomes of their positions.

3. Understanding Market Volatility

Pips help traders gauge the market's volatility and price changes. Frequent, large pip movements in a currency pair may indicate high volatility, which traders can use to adjust their strategies accordingly, either seeking opportunities in the volatility or avoiding potential risks.

4. Risk management

Traders can determine the maximum amount they are willing to lose on a trade and set an order to automatically close the trade if it reaches that loss limit. Calculating this potential loss in terms of pips allows traders to precisely define and manage their exposure to potential losses. This is a crucial aspect of effective forex trading, as it helps traders limit their downside risk.

How to Calculate PIP Value?

What is PIP Value and Lot Size?

The pip value refers to the monetary value of a single pip in a currency pair. The exact value of the pip will be determined by the following three factors:

• the forex pair being trading

• the exchange rate between the two currencies

• the lot size or monetary value of the trade

Lot size is the standard unit of currency traded in forex. A standard lot is 100,000 units of the base currency. For example, when buying the EUR/USD currency pair, a standard lot would be 100,000 euros. If the exchange rate of EUR/USD is 1.08270, you need 108,270 units of quote currency (which is $108,270) to buy 100,000 euros. There are also mini, micro, and nano lot sizes that are 10,000, 1,000, and 100 units.

Calculating PIP Value Per Lot

To calculate the impact of spreads, profits and losses in forex, it’s important to understand how to calculate the value of one pip per lot of a currency pair. The formula to calculate the pip value per lot is:

PIP Value per Lot (Quote Currency) = One PIP × Lot Size

PIP Value per Lot (Base Currency) = (One PIP / Exchange Rate) × Lot Size

Let's go through an example using the EUR/USD currency pair:

Suppose you’re buying a standard lot (100,000 units) of the EUR/USD currency pair at a price of 1.08270. The value of one pip is calculated as follows:

• One PIP for EUR/USD = 0.0001

• One Standard Lot Size = 100,000 units

• Exchange Rate = 1.08270

PIP value per lot in terms of quote currency 

= One PIP × Lot Size

= 0.0001 × 100,000

= USD10

PIP value per lot in terms of  base currency:

= (One PIP / Exchange Rate) × Lot Size

= (0.0001 / 1.08270) × 100,000

≈ EUR9.23616

Let's examine some examples involving major currency pairs and different lot sizes:

Calculating Spreads

• What is Spread?

A Forex quote includes a ‘bid’ and ‘ask’ price. The bid price is what a broker is willing to pay, and the ask price is what a broker is asking for. The difference between these two prices is known as the ‘spread,’ which is often measured in pips. 

Suppose the currency pair EUR/USD is quoted as 1.08247/1.08227. Here, the bid price is 

1.08247, and the ask price is 1.08227. The spread is 2 (= 1.08247 - 1.08227) pips.

MC Prime's trading dashboard takes the guesswork out of spreads. Simply select your desired currency pair, and our platform instantly displays the spread, eliminating the need for manual calculations. Try MC Prime today!

• Calculating the Spread Cost

Spread is usually charged by forex brokers to cover their costs. Before starting your trade, you should know how spread will affect your cost of a trade. The cost of spread is determined by:

1. The amount of spread

2. The pip value per lot of the currency pair

3. The lot size traded

The formula to calculate the spread cost is:

Spread Cost = Spread * PIP Value Per lot * Lot Size. Let's look at two examples to illustrate the calculation:

Scenario 1: Long Position on EUR/USD 

Scenario 2: Short Position on USD/JPY

MC Prime offers incredibly low spreads, from 0 in the RAW account. This means you can minimize the impact of market fluctuations on your trades and maximize your trading potential, all while enjoying cost-effective trading.

Calculating Profits and Losses 

The profits and losses in trading are determined by:

1. The amount of profited or lost pips

2. The pip value per lot of the currency pair

3. The lot size traded

The formula to calculate the profit(loss) is: 

Profit(loss) = Profited(lost) pips * PIP value per lot * Lot size. Let's go through some examples to illustrate this:

Scenario 1:

You go long on one mini lot of EUR/USD. If the price rises and you close the trade with 30 profited pips, your profit would be calculated as:

• Lot size: 1 mini lot = 0.1 standard lot

• PIP value for EUR/USD: $10 per pip per standard lot

• Profited pips: 30 pips

• Profit = 30 pips * $10 per pip per standard lot * 0.1 standard lot = $30

Scenario 2:

You go long on one standard lot of USD/JPY. If the price drops and you close the trade with 30 lost pips, your loss would be calculated as:

• Lot size: 1 standard lot = 1 standard lot

• PIP value for USD/JPY: ¥1,000 per pip per standard lot

• Lost pips: 30 pips

• Loss = 30 pips * ¥1,000 per pip per standard lot * 1 standard lot = ¥30,000

The key is to remember that profits and losses are directly proportional to the three factors mentioned above. By understanding how to calculate this, you can better manage your risk and optimize your trading strategy.

Conclusion

Pips are the fundamental building blocks of forex price movements, and understanding them is crucial for successful trading. This guide has demystified pips, including their distinction from pipettes, and highlighted their crucial role in spreads, profits, losses, market volatility and risk management. Ready to put your knowledge into practice? MC Prime offers a free demo account, allowing you to hone your skills and confidently navigate the forex market. Start your journey today!