When trading Forex, traders should understand that price moves in pips, not points, as well as what lot size means.
What Are Pips and Lots In Forex?
A pip is the smallest amount a currency can move. An example would be EURUSD changing from 1.1777 to 1.1777 is one pip. In most pairs, a pip is 0.0001 of the current quote. In yen pairs, a pip is equal to 0.01. A lot size is the minimum amount you can buy or sell of a currency.
However, some brokers offer fractional pips and will quote to 1/10th of the standard pip size which means that instead of 0.0001, in most cases they might quote to 0.00001 for example.
Lot Sizes + Pips = $$
Trading Forex does mean you need to trade a certain “lot” size. This really just means that you are buying and selling a minimum number of the base currency (the first in the pair) against the quote currency.
Depending on the account you have, you may be able to trade in standard, mini or micro lots. A standard lot is 100,000 whereas mini and micro lots are 10,000 and 1,000 respectively. So you can see that although a pip represents minimum price change, what it means to an individual trader does vary.
Take for example the EURUSD pair trading at 1.3578.
As the minimum lot standard size is €100,000 (base currency) the way you work out the pip value dollar is as follows:-
€100,000 x 1.3578 = $135,780 → $135,780 ÷ 13,578 (1.3578 ÷ 0.0001 = the total number of pips) = $10
So a move of just 0.1% or 14 pips is worth $140 per pip (1.3578 x 0.1% = 0.0014).
Doesn’t sound too much does it?
But when you take into account the fact that it’s not unusual to see 100 pip (0.0100) day ranges or more it starts to look a little more expensive.
How Much Is 50 Pips Worth?
Using the same numbers and trading one standard lot: 50 pip move X $10 = 50 pips equals $500
Add this to the fact that by trading multiple lots you are actually better able to control your risk on a relative basis, things can really start to add up when you do take losses.
Mini and Micro Lot Sizes
This is where mini and micro lots come in. In the same example, if you were trading mini lots you would be risking $1 per pip movement. For a micro lot it would be $0.1. And this kind of lot size makes it easy to get started in trading Forex.
Risking even an entire day’s range at 100 pips is only equal to $10 for a micro lot. And with mini or micro lots, you’ll have more exits available to you per trade than with a standard lot if you choose to trade more lots per trade.
But then why even bother if you have to trade €10,000 or €1,000 per shot? This is where leverage comes in.
Leverage In Forex Trading
Leverage is the ability to trade based on a marginal amount of the capital required to trade. So in the same example, let’s say that we wanted to sell a single EURUSD lot at 1.3578. That means selling €100,000 x 1.3578 = $135,780.
Unleveraged that would mean having €100,000 in an account to make just $10 per pip! But when you trade on margin, you might be able to get 50:1 leverage for example. This means you only have to put down 1/50th of the amount normally required for the trade.
So the same position would only take €2,000 worth of margin to trade. Not that leverage is all good news. Trading on margin allows a trader to lose more than the value of their margin account, so a non-risk savvy trader can easily get themselves into hot water.
Although a pip is just the minimum standard price fluctuation for a currency pair, depending on the lot size and the leverage on offer it can mean something very different from one trader to the next. Utilize the tools at your disposal wisely and make the pip manageable – not too much risk but enough to let you profit from your winners.