Currency exchange rates fluctuate in fractions of a dollar called Pips. A Pip is an abbreviation of Percentage in Point and is the smallest price movement a currency can make. A Pip is usually the last decimal of a quote.
As an example, the smallest move the EUR/USD pair can make is $0.0001, or one pip. When the currency exchange rate increases by one pip, it means the Euro has strengthened against the US Dollar, and if the currency exchange rates decrease by one pip, the Euro has weakened against the US Dollar. Each pip movement represents a profit or a loss in your trade.
It is important to note that there is a 3 decimal quotation system for the Yen pairs. In this case, the pip is on the 2nd decimal.
If you are in need of a pip calculator, you can find one here.
Pips vs Pipettes or Fractional Pips
Some brokers use a 5 decimal quotation system. The 5th is what is called a pipette or fractional pips, where there are 10 pipettes in a pip. If you find your broker quotes to the 5th decimal, the pip is quoted on the 4th decimal.
What is the Pip value?
Pips are a valuable measurement that can help us determine the distance to our Stop Loss order or Take Profit order or to determine the amount of risk taken, but what is their value?
A Pip may have a minimal value on its own, but when trading large amounts of money, by the use of Leverage, its value will increase considerably. Ultimately the Pip value will tell us how much the smallest price movement it’s worth in a dollar amount and how much money we’re making or losing.
The Pip value of each of our trades is dependent on the volume of our transaction and the number of Lots we’re trading. Because each currency has its own relative value the monetary Pip value will depend on the specific currency, so a trader needs to be able to calculate the real value of a pip in order to determine the profit or loss in real value.
How to Calculate Pip Value
We have two distinctive scenarios in calculating Pip value depending on if the pair includes the USD as one of the currencies being quoted.
Where the US Dollar is the base currency
If the US Dollar is the base currency, like in the case of USD/CAD or USD/CHF, then in order to calculate the Pip value, we need to use this formula:
Pip Value = (One Pip / Exchange Rate) * Lot size
Example 1: If we buy 1 standard lot of USD/CHF that is trading at the 0.9885 level, then each pip move in our favor will be worth 10,11 USD.
Pip Value = (0.0001 / 0.9885) * 100.000 = 10,11 USD
Where the currency pair does not contain the USD
The second scenario is when we have a currency pair that doesn’t contain the US Dollar – such as EUR/JPY or GBP/CHF. Such currency pairs are also known as cross currency and in order to calculate the Pip value we have to use the following formula:
Pip Value = [(One Pip / Exchange Rate) * Lot size]*Base Currency Exchange rate
Example 2: If we buy 1 standard lot of GBP/JPY that is trading at the 158.45 level, in order to calculate the pip value we’ll need the exchange rate of the Base currency, which in our case is the GBP/USD and we’ll use 1.4480 as our conversion exchange rate.
Pip Value = [(0.01 / 158.45) * 100.000] * 1.4480= 9,13 USD
If we trade 1 standard lot of GBP/JPY then each pip move in our favor will translate into 9,13 USD profit.