You’ve probably come across these terms already during your investigation into currency trading. It is important to get a good grasp of these concepts before we go any further and explore the math associated with them. These concepts set the stage for knowledgeable Forex analysis and trading.
The Pip Exposed
As discussed in previous library articles, a pip is the smallest price change a given exchange rate can make. Most major currency pairs are priced to four decimal points, so the smallest change for most exchange rates is equal to a 1/100th of one percent increase.Your profits and losses can be calculated in terms of how many pips you gained or loss. A pip is derived by comparing the starting rate to the ending rate. The difference between the two is how many pips you gained or lost.
For example, if the exchange rate for the USD/CHF was initially 1.2155 and rose to 1.2159 then it has moved 4 pips – which could be good or bad depending on whether you own Francs or Dollars.
Pip Examples
Each currency has its own value which is usually expressed in relationship to another currency. As such, the value of one pip is different for each currency pair and depends on several factors – the main aspect being the exchange rate.The value of a pip is derived by taking 1/10,000 of most currency pairs (this holds true for all exchange rates quoted with 4 decimal places – Japanese Yen or JPY is an exception and will be explained later) and dividing that by the exchange rate:
pip = 1/10,000 ÷ Exchange Rate
Let’s take a look at several of the main currencies to gain a better understanding of how a pip is calculated. We will express these examples where the USD is quoted first in order to express the value of the pip in terms of U.S. dollars.