Pips and Points
“PIP” stands for Point In Percentage. More simply though, a pip is what we in the FX would consider a “point” for calculating profits and losses. Currency trading offers a challenging and profitable opportunity for well-educated investors. However, it is also a risky market, and traders must always remain alert to their trade positions. The success or failure of a trader is measured in terms of the profits and losses (P&L) on his or her trades. It is important for traders to have a clear understanding of their P&L, because it directly affects the margin balance they have in their trading account. If prices move against you, your margin balance reduces, and you will have less money available for trading.
What is a ‘Standard Lot’
A standard lot is the equivalent to 100,000 units of the base currency in a forex trade. A standard lot is similar to trade size. It is one of the three commonly known lot sizes; the other two are mini-lot and micro-lot.
BREAKING DOWN ‘Standard Lot’
A standard lot represents 100,000 units of any currency, whereas a mini-lot represents 10,000 and a micro-lot represents 1,000 units of any currency. A one-pip movement for a standard lot corresponds with a $10 change. For example, if you buy $100,000 against the Japanese yen at a rate of ¥110.00 and the exchange rate moves to ¥110.50, which is a 50 pip movement, you have made $500. Conversely, if the exchange rate falls 50 pips to ¥109.50 your net profit and loss is minus $500.
So in other words, if you traded a 0.13 lot size in Forex, you would be trading 13,000 units because that is equal to 1 mini lot (0.1) and 3 micro lots (0.03).
A fractional pip is equivalent to 1/10 of a pip, making it possible to view the EUR/USD currency pair with pipettes to five decimal places, while currency pairs with the yen as the quote currency to three decimal places. Pipettes are displayed in superscript format in the quote panel.
Now that you know how many units of currency you are trading, it is easy to calculate the value per Pip.
Let’s look at GBPUSD again where we know that price increments of 0.0001 are equal to 1 Pip. For this exercise, we will trade 1 mini lot (0.1 = 10,000 units) and assume that the exchange rate is 1.2940
Here is the formula:
(1 Pip in decimal places * trade size) / exchange rate = value per Pip
0.0001 * 10,000 = 1
1 / 1.2940 = 0.77279
Each Pip is equal to 0.773 GBP
If you placed a buy or long trade on GBPUSD with a mini lot (0.1) at 1.2940 and took profit at 1.2980, you would have made 40 Pips profit. Multiply that by the value per Pip and you have the profit in GBP:
0.773 * 40 = 30.92 GBP
Leverage in basic terms means that your broker lends you money so that you can enter a position that is actually too big for your trading account. But without leverage, most traders wouldn’t even bother trading because their profit opportunities would be close to zero.
If you want to take a trade with the size of one standard Lot, you’d have to buy $100.000 to enter the position. But if you chose a leverage of 100:1, you can enter a one standard Lot position with an account of only $1.000:
Required Account Size = Trade Size In $ / Leverage
$100.000 / 100 = $1.000
Margin is similar to leverage and it’s mainly just another way of looking at the same thing. If your broker requires you to have a 2% margin, it just means they are offering you a 50:1 leverage ratio.
Leverage = 1 / Margin
50:1 = 1/2% = 1/0.02
This means that your trading account has to be at least 2% of the value of the trade you are about to take. Margin, therefore, works as a deposit that the trader hat to provide to the broker when entering a trade.
With $1.000 margin (a trading account of $1.000), you can trade up to $100.000 with a 100:1 leverage (1% margin requirement).
When a losing trade falls below the maintenance margin, you receive a margin call and your positions are being liquidated by your broker or you are required to deposit additional funds to remain in the trade.