In stock markets around the world, investors discuss items in terms of dollars, or Euros, or Yen, or some other similar currency. However, in the foreign exchange currency market, none of that matters as much as the Forex pip. What is a pip you ask? Glad you asked. We will explain the basis of the pip and how it relates to the market.
In the style of a text book definition, a pip stands for percentage in point. It is the smallest price increment currently in use in Forex trading. Because currencies are not traded one to one, the mathematical comparison leads to a lot of numbers with decimal points. The system was established to show prices quoted to the fourth decimal point.
One example might show a EUR/USD (Euro and US dollar) would be bought at 1.1914 and subsequently sold at 1.1917. You can see that the difference in the numbers is .0003. In the forex world this would be called 3 Forex Pip. The only exception to this fourth decimal point rule is found in the Japanese Yen which is quoted to the second decimal point.
Now that we better understand the pip, let s look at how they translate into profits. When trading in Forex, leverage comes into play on a regular basis. Just as an example, let s suppose that your broker allows you to trade at a ratio of 100:1. This would mean that in order for you to purchase lot size of $100,000 worth of a particular currency, you would need to pay $1,000.
You can see how these larger lots would allow you make more from your Forex Pip value. By continuing with the same example, suppose you bought EUR/USD at 1.2463 and sold at 1.2477. The difference is 14 pips.
Next, to determine your profit, you would divide .0001 by 1.2477 which equals 0.00008 per pip, fairly small number. But, with the leverage, you multiply by $100,000, to get an answer of $8.00 per pip. Multiply this by our difference of 14 pips and your profit is $112.
While we are discussing leverage and lot sizes, it is worth noting that in the Forex a standard lot size is indeed $100,000. There also exists a Mini lot which is $10,000 but I think from the example above it would be obvious that most investors tend to work with a standard size lot in order to get more profit for each Forex pip.
Keep in mind that in the example above, only $1,000 is necessary for each lot. Therefore, if you wished to trade $400,000 in currency, your broker would ask that you have a deposit of $4,000 in your brokerage account.
In the event that your account should go below the minimum requirement amount, your broker will automatically close your positions, basically stopping your investments. This is known as a Margin call.
With this type of available leverage and the solidarity of the currencies around the world it is easy to see how a few Forex pip can make some significant profits for investors.
Author Resource:-
With more than 5 years experiences as a full time trader, Joshua Tree shares his knowledge about forex using videos, an exciting new learning platform to share with others about proven forex trading concepts. To gain his 4 FREE Videos, please go to http://www.forexpipz.com/free-videos.htm
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