A:

In forex markets, currency trading is done on some of the world's most powerful currencies. The major currencies traded are the U.S. dollar the Japanese yen, the euro, the British pound and the Canadian dollar.

A currency pair such as EUR/USD, for example, represents a euro and U.S. dollar currency pair. The first currency is the base currency and the second currency is the quote currency. So, to buy EUR/USD at 1.1200 on a trade for 100,000 currency units, you would need to pay US$112,000 (100,000 * 1.12) for 100,000 euros.

Pips relate to the smallest price movement any exchange rate can make. Because currencies are usually quoted to four decimal places, the smallest change in a currency pair would be in the last digit. This would make one pip equal to 1/100th of a percent, or one basis point. For example, if the currency price we quoted earlier changed from 1.1200 to 1.1205, this would be a change of five pips.

To get the value of one pip in a currency pair, an investor has to divide one pip in decimal form (i.e. 0.0001) by the current exchange rate, and then multiply it by the notional amount of the trade.

Keeping with our earlier example for the EUR/USD currency pair, the value of one pip is 8.93 euros ((0.0001/1.1200) * 100,000). To convert the value of the pip to U.S. dollars, just multiply the value of the pip by the exchange rate, so the value in U.S. dollars is $10 (8.93 * 1.12). The value of one pip is always different between currency pairs because there are differences between the exchange rates of different currencies. A phenomenon does occur when the U.S. dollar is quoted as the quote currency. When this is the case, for a notional amount of 100,000 currency units, the value of the pip is always equal to US$10.

To learn more, see Common Questions About Currency Trading, A Primer On The Forex Market and Forces Behind Exchange Rates.

RELATED FAQS
  1. Where did the term 'pip' in currency exchange come from?

    Learn the definition of a pip, what it means in the scope of currency exchanges and how to determine its value. Find out ... Read Answer >>
  2. How does leverage affect pip value?

    A standard forex account has specific lots and pip units. A lot is the minimum quantity of a security that may be traded, ... Read Answer >>
  3. How do you make money trading money?

    How someone makes money in forex is a speculative risk: you are betting that the value of one currency will increase relative ... Read Answer >>
  4. Why is currency always quoted in pairs?

    When reading currency quotes, you have probably noticed that there is only a single quote for a pair of currencies. Currency ... Read Answer >>
  5. Why do forex traders use a currency converter?

    All currencies are quoted in pairs - one country's currency against another country's currency. A currency converter is used ... Read Answer >>
Related Articles
  1. Financial Advisor

    What Is A Pip?

    Learn how this measure of change is used in trading currencies on the forex market.
  2. Trading

    Forex Minis Shrink Risk Exposure

    Trading less than a standard lot means getting in for less - and having less to lose.
  3. Trading

    How To Use FX Options In Forex Trading

    Currency options are another versatile tool for forex traders. Find out how to use them.
  4. Trading

    How Do You Make Money Trading Money?

    Making money in the foreign exchange market is a speculative process. You are betting that the value of one currency will increase relative to another.
  5. Trading

    Spread-To-Pip Potential: Which Pairs Are Worth Day Trading?

    Spreads play a significant factor in profitable forex trading. Learn when it's worth trading and when it isn't.
  6. Trading

    What Makes the EUR/USD A Risky Trade Now?

    What are the current risks of trading the EUR/USD pair? The Fed may raise interest rates this summer and the ECB has begun a quanitative easing program.
  7. Trading

    Drastic Currency Changes: What's The Cause?

    Currency fluctuations often defy logic. Learn the trends and factors that result in these movements.
  8. Trading

    The 6 Most-Traded Currencies And Why They're So Popular

    Every currency has specific features that affect its underlying value and price movements in the forex market.
RELATED TERMS
  1. Nickel

    A slang term meaning five basis points, or five pips. A nickel ...
  2. Pip

    The smallest price change that a given exchange rate can make. ...
  3. Currency Pair

    The quotation and pricing structure of the currencies traded ...
  4. Base Currency

    The first currency quoted in a currency pair on forex. It is ...
  5. Quote Currency

    The second currency quoted in a currency pair in forex. In a ...
  6. Counter Currency

    The currency used as the reference or second currency in a currency ...
Hot Definitions
  1. Notional Value

    The total value of a leveraged position's assets. This term is commonly used in the options, futures and currency markets ...
  2. Interest Expense

    The cost incurred by an entity for borrowed funds. Interest expense is a non-operating expense shown on the income statement. ...
  3. Call Option

    An agreement that gives an investor the right (but not the obligation) to buy a stock, bond, commodity, or other instrument ...
  4. Pro-Rata

    Used to describe a proportionate allocation. A method of assigning an amount to a fraction, according to its share of the ...
  5. Private Placement

    The sale of securities to a relatively small number of select investors as a way of raising capital.
  6. AAA

    The highest possible rating assigned to the bonds of an issuer by credit rating agencies. An issuer that is rated AAA has ...
Trading Center