What is Pip / Point, Lots and Spread in Forex Trading

It is very important that you understand what a pip is in the Forex trading because you will be using pips in calculating your profits and losses. A “pip” stands for “Percentage in Point”. A pip is the smallest price movement of a traded currency. It is also referred to as a “point”.

For most currencies a pip is 0.0001 or 1/100 of a cent. You may think it is a ridiculously low value. However, take into account that most currencies are traded in lots of $100 000. For that amount a pip is $10.

When a currency moves from a value of 1.4511 to 1.4514, it moved 3 pips. When a pip has a value of $10, you have gained $30.

There is an exception for quotations for Japanese Yen against other currencies. For currencies in relation to Japanese Yen a pip is 0.01 or 1 cent. Then if you are trading USD/JPY in $100 000 lots, one pip will be equivalent to $1000.

Understanding “Lots”

A lot is the minimal traded amount for each currency transaction. For the Regular Accounts one lot equals 100 000 units of the base currency. You can also open a Mini Account and trade in mini lot sizes that are 10 000 units of the base currency.

Understanding the Pip Spread

The spread is closely associated with the pip and has a major importance for you as a trader. It is the difference between the selling and the buying price of a currency pair. It is the difference in the bid and ask price. The ask is the price at which you buy and the bid is the price at which you sell.

Suppose the EUR/USD is quoted at 1.4502 bid and 1.4505 ask. In this case the spread is 3 pips.

The pip spread is your cost of doing business here. In the case above it means you sustain a paper loss equal to 3 pips at the moment you enter the trade. Your contract has to appreciate by 3 pips before you break even. The lower the pip spread the easier is it for you to profit.

Generally the more active and bigger the market, the lower the pip spread. The smaller and exotic markets tend to have a higher spread. Most brokers will be offering different spreads for different currencies. Smaller accounts will generally have higher spreads than bigger regular accounts.

From the profitability point of view it is important to find a broker offering a lower pip spread, however the low spread is not everything. Be sure you choose a reputable broker.

 

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