The Mechanics of Currency Markets - PIPS

In currency trading, the smallest and most common increment is the PIP. IF GBPUSD move from 1.6251 to 1.6252, that increment is known as 1 PIP. PIP actually means Percentage increase in Points. The PIP is generally referered to as the last decimal place of a currency quote. Therefore if the currency quotes is in 4 decimal places, the one increment/decrement of 4th decimal place is known as 1 PIP. For currency quote for AUDJPY at 78.68, which has 2 decimal place, one increment/decrement of 4th decimal place is known as 1 PIP.

The PIP in currency trading is often seen as the measurement of profit/loss from the trade.

So what is the worth of a PIP exactly, since it measures profit or loss?

Each currency that is traded, it is therefore important to know the value of a PIP for that currency. We also require a constant value that we can use if there is a need to convert all our trade profit/loss to US Dollar.

In currency where US Dollar is quoted first, the calculation will be as follow: -

USDCAD at 1.0915, the value of 1 pip would be 0.0001/1.0915 = 0.0000916.

USDCHF at 1.0595, the value of 1 pip would be 0.0001/1.0595 = 0.0001808.

USDJPY at 93.95, the value of 1 pip would be 0.01/93.95 = 0.0001061.

The above value for 1 pip might look like some large numbers, but it might not be after we discuss the lot (contract) size later.

If the US Dollar is not quoted first and in order for us to get to the value of US Dollar we have to include one more step, which is to include in the exchange rate.

EURUSD at 1.4301, the value of 1 pip would be 0.0001/1.4301 * 1.4301 (exchange rate) = 0.0000699 * 1.4301 = 0.0001 (round up)

GBPUSD at 1.6267, the value of 1 pip would be 0.0001/1.6267 * 1.6267 (exchange rate) = 0.0000614 * 1.6267 = 0.0001 (round up)

You might be thinking by now, there is so much mathematics involved in Forex Trading! How does it work out? Do I have to do all these calculations myself evertime I trade? Do not worry, all brokers that you choose to trade with will do all the calculations for you automatically.

In the next post, we will touch more on the mechanics of ciurrency markets.