This article aims at providing information related to pip value calculation for currency/ forex pairs in the form of illustrations and facilitate market participants to clearly understand the steps involved in their calculation.
Before we proceed to the actual calculation, it is very important to identify the differences between direct, indirect and cross currency/ forex pairs. We also need to realize the definition of a pip and fractional pip before arriving at the calculation for a pip, which varies between direct, indirect and cross- currencies / forex pairs.
What are direct forex pairs?
A direct forex pair is one in which the domestic currency is quoted in fixed units while the foreign currency (US dollar) is quoted in variable units. EURO, Pound Sterling and the Australian dollar are some of the direct currencies
Mentioned below are some of the most common direct currencies
Euro- US dollar
Pound Sterling- US dollar
What are indirect forex pairs?
In an indirect forex pair, the US dollar is considered as the base currency and is quoted in fixed units while the domestic currency is quoted in variable units. Japanese yen, Swiss franc are some of the indirect currencies
Mentioned below are some of the most common indirect currencies
US dollar- Japanese yen
US dollar- Canadian dollar
What are cross-currencies?
They are currency/ forex pairs that do not include the US dollar either as the base currency or as the variable currency.
Mentioned below are some of the most common cross currencies
EURO- Japanese yen
Sterling- Japanese yen
What are pips?
Pips or price interest points are the smallest price movements in a forex pair. Normally, forex pairs are quoted in four decimal places with the exception of the Japanese yen, which is quoted in two- decimals.
If US Dollar/ Japanese yen is quoted as ¥94.50/ ¥94.52 and the last traded value is ¥94.51, a one- pip move would indicate a change in the last decimal or when the forex pair shifts to ¥94.50 or ¥94.52
What are fractional pips?
We’re already aware that most forex pairs are quoted in four- decimal places, with the exception of the Japanese yen which has two- decimal places. In fractional pips, an additional decimal is included to the existing four or two decimals.
Fractional pips are called decimalized pricing and are quoted in one tenths of a pip resulting in tighter spreads, thereby offering traders/scalpers the advantage of smaller price increments.
GBP/USD- $1.5951/ 1.5954- Normal spread
GBP/USD- $1.59516/ 1.59538 – The numbers quoted after the fourth decimal are called fractional pips
How are pip values calculated?
The formulas used to calculate pip values vary, depending on the type of forex pair. Mentioned below are the formulas and the calculations used to arrive at the pipvalue for different currency pairs.
Suppose EUR/USD is quoting at 1.3610 and the lot (contract) size is 100,000, pip value can be calculated using the following formula
PIP VALUE= LOT SIZE * TICK SIZE
The pip value for EUR/USD at $1.3610 on a lot size of 100,000=
For direct currencies, as long as the lot (contract) size remains the same, the pip value will remain a constant.
Suppose USD/JPY is quoting at ¥95.50 and the lot (contract) size is 100,000, pip value can be calculated using the following formula
PIP VALUE= (LOT SIZE * TICK SIZE)/EXCHANGE RATE
The pip value for USD/JPY at ¥95.50 on a lot size of 100,000=
(100,000*0.01)/ 95.50= $10.47
For indirect currencies, the pip value changes as the exchange rate fluctuates.
Suppose EUR/GBP is quoting at 0.8710 (exchange rate), EUR/USD is quoting at 1.3210(base quote) and the lot (contract) size is 100,000, pip value can be calculated using the following formula
PIP VALUE = (LOT SIZE*TICK SIZE* BASE QUOTE)/ EXCHANGE RATE
The pip value for EUR/GBP at 0.8710 on a lot size of 100,000=
(100,000*0.0001*1.3210)/ 0.8710= $15.16
In the case of cross currencies too, the pip value changes as the base rate and the exchange rate fluctuates.