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Calculating a Pip's Value
Any Forex trader must know what pips are and how to determine the value of a certain currency's pip. We've gathered for you some useful information which will help you understand the nature of pips and how to figure out how much a certain pip is worth.
Smallest Figure in Exchange Rates
Forex trading is all about buying one currency while using another to pay for it. The currency being bought is called the "target currency", and the currency used to pay with is called the "base currency". The exchange rate shows the price of each unit of the target currency in terms of the base currency (i.e. how much a trader must pay, using the base currency, for each unit of the target currency they buy).
If for instance, the exchange rate for the currency pair U.S Dollar/Euro is 1.5411, a trader will pay 1,541.1 U.S Dollars when buying 1000 Euros.
For all currencies, except the Japanese Yen (JPY), the figure showing pips is the smallest one in the exchange rate, the fourth digit after the decimal point. The figure showing pips of the Japanese Yen is the second after the decimal point.
Knowing How Much a Certain Pip is Worth
Once you know which figure in a certain exchange rate is the one showing pips it becomes quite simple to calculate the value of a single pip.
In a case of the U.S Dollars/Euros Forex currency pair, if the exchange rate is 1.5411, each Euro costs 1.5411 U.S Dollars. The first digit in the exchange rate shows whole U.S Dollars, the second digit (which is the first after the decimal point) stands for tenths of U.S Dollars i.e. ten cent units. The third digit is cents, the fourth tenths of cents and the last digit, the fourth digit after the decimal point, the figure showing pips, stands for one hundredth of a cent (or one thousandth of a U.S Dollar). Therefore, a pip in this case, is worth one hundredth of a cent.
Although it is highly advisable that anyone engaging in Forex trading knows enough about pips, nowadays it is no longer necessary for traders to figure out the value of a certain pip by themselves. Modern Forex trading platforms, the one we offer naturally among them, feature a Forex pip calculator which makes it very easy to tell how much the pip of any currency is worth.
Pips, Spreads and Profits
In order to make a profit, a Forex trader must open a trading position by buying a certain amount of a target currency and then closing the position (selling the currency they chose to trade on) once the exchange rate has changed in their favor. The difference between the exchange rate at the time the trading position was opened and the exchange rate when the position was closed is called the "spread". Pips are used to describe spreads.
For instance, the exchange rate of the U.S Dollar/Euro currency pair is 1.5411, and a trader gives an order to buy 10,000 Euros, thus paying 15,411 U.S Dollars for them. After several hours, the exchange rate has climbed to 1.5551, and the trader gives an order to sell the Euros, the spread comes to 140 pips. Since each pip is worth one hundredth of a cent the trader has made a profit of 1.4 cents for each Euro they had bought and sold. Since they traded on 10,000 Euros, the profit they've made comes to 14,000 cents which are 140 U.S Dollars.
Another way to look at the example above is to subtract the amount the trader paid when buying the 10,000 Euros from the amount they received when they sold the Euros. 10,000 Euros at an exchange rate of 1.551 is worth 15,551 U.S Dollars. When the 10,000 Euros where bought the trader paid 15,411 U.S Dollars for them, the profit they've made comes to 140 U.S Dollars.