How to calculate pips and position size

A pip is the smallest movement in the price action.
This movement is calculated through the spread difference - bid and ask price. For the most pairs one pip represents 0.0001,  for the JPY(yen) pairs it is 0.01, because of 3(2) digital value in comparison with other major currencies, which have 1 digital value.

Example 

• For the EUR/USD the movement from 1.4000 to 1.4001 represents one pip
• For the USD/JPY the movement from 112.00 to 112.01 represents one pip

The calculation of the pips comes in handy if we want to make a transaction, so we know how many lots we want to buy or sell.

A Lot

In general, a lot represents the standardized quantity of a financial instrument. 1 (standard) lot is 100.000 units of base currency. I would suggest using calculator, because it can be quite tricky to calculate. This calculator is my favorite one.

How to calculate position size - very important for Forex trading!

In trading it's really important to have risk and money management, which belongs to one of the fundamentals of trading if you don't want to blow your account off. I will discuss this topic in the next article and post a link here.

Some brokers calculate the lots for you(for example Plus 500), but many professional traders should be able to calculate the value of the lot, sl(stop loss) and tp( take profit) by themselves. So they know how much money they risk. Many traders also use Metatrader 4, which doesn't come with properly calculated money, when you open position,  and I struggled a lot at first.

    The Metatrader 4 insight of setting up a position 

At first you you have to determine, how much money you want to risk in one trade. Let's say, that you want to risk 1% of your account and you have 50k (50 000) on your account.  With this knowledge we can calculate the amount of dollars risked in one trade:

A 50 000 *0.01 = 500

Then we have to determine how many pips you risk in one trade. Let's say, that we have opened position at 1.4000 EUR/USD and we have our stop loss at 1.3800 (The stop loss gets you out of the trade without your presence), so we risk 14000 - 13800 = 200 (Don't use a punctuation in this case!) .

Next we divide the amount risked (1% of the account) by the stop loss to find a value per 1 pip:

A USD 500/200 PIPS = 2.5 USD/pips


That means, that for every pip we risk 2.5 dollars (in EUR/USD case)
In the end we have to determine the lot size. There are  lots of types of lot sizes:

• A standard lot (marked as 1.0) is 100 000 units which will give you 10$ per pip movement
• A mini lot (marked as 0.1) is 10 000 units which will give you 1$ per pip movement
• A micro lot(marked as 0.01) is 1 000 units which will give you 0.10$ per pip movement.

Lastly, we take the unit/value ratio of EUR/USD and multiply it with standardized value* per pip. In this case with 10k units, because we want to risk 2.5USD for each pip and therefore will use a mini lot.

USD 2.5/pip * (10 000 units of EUR/USD / USD per pip) = 25 000 units of EUR/USD, so we want to take a  0.25 lot in this case (we risk 2.5 EUR/ 1 pip). 

The $ value per pip movement has nothing to do at all with leverage! ( See leverage section below) 

Don't worry if you struggle at first, you will automate these processes with practice or you can use calculator shown above. 

 Beware! Some currency pairs have different unit/value ratio(standardized value). If we will take for example EUR/JPY, its standardized value is 11.25$/pip (11 250 units) instead of 10$/pip EUR/USD. So you have to multiply this value accordingly -> 2.5/pip * (11 250 units of EUR/JPY / EUR per pip) = 68 750 units of this currency.

Handy rules of tens

 When the account is denominated in base currency (for example in EUR), the pip values are in units of 10 (this rule doesn't apply to JPY) in default. So you have to calculate the position sizes just with your base currency.

For instance:

If the account is denominated in euros, then each pip of standard lot would be worth 10 euros,  for a mini lot 1 euro and for micro lot 0.1 euro.

With any currency pair in which the USD is the base currency (with the majors, that only happens with the USDJPY and USDCAD), the pip value of the USDCAD in a USD-denominated account would be $10 per standard lot, $1.00 for a mini lot, and $0.1000 for a micro lot.

Rules of tens doesn't apply to JPY pairs

 The exception to this rule occurs when the JPY is the quote currency (all the time with the majors) because pips are in increments of 0.01 not 0.0001.

Assuming a standard 100,000 lot size, and USDJPY price of 80, account denominated in USD:

0.01/80 * 100,00 = 12.5

12.50yen/pip standard lot 1.25yen/pip mini lot 0.125 yen/pip micro lot

Converting that to USD: 12.5/80 yen 0.15625$/pip for a standard lot, 0.01562$/pip for a micro lot, and so on.

Formula  which you should use for counting pip value:

(1 pip/exchange rate or price of the pair) * lot size [in base currency—the one on the left]  = pip value in the quote currency [the one on the right]

The Leverage

The Leverage is the usage of various financial instruments or borrowed capital( you borrow this capital from broker) such as margin, to increase the potential return of an investment. 

The most common used leverages by brokers  are 100:1 and 50:1, so a trader with 1000 $ can only trade up to 100 000 worth of currencies, what can be very useful, but on the other hand can absolutely humiliate your account, if you don't use it properly. The smaller the leverage is, the less amount of money you risk. I personally recommend (if this possibility of broker to set up a leverage is possible) 100:1 ratio.

The leverage is the reason, why you can end up with huge profits or losses in the Forex market, even though the price of the currency doesn't change that much in reality.

The Equity

The Equity is one of the terms, which you will hear a lot in the forex markets. I've memorized this formula to understand, what equity means. It's very simple, don't get scared. :)

Total Equity = Cash + Open Position Profits - Open Position Losses

So the equity is total amount of cash and the amount of opened position (doesn't matter if they are winning or losing) totaled.

The Margin Call - fear of traders 

The margin is the amount of equity needed to ensure, that you can cover your losses. So if you buy 

10 000 $ worth of currency, you are not depositing 200$ and borrowing 9 800$, but you use 200$ to cover your losses - these 200 bucks are your margin safety. 

Your total equity determines, how much margin you have left. So it's never wise, to use 100% of your margins for trades or you will end up with a margin call, what is not a good sign, because your account is heading to the zero and this won't allow you to trade. The amount of leverage that broker allows, determines the amount of margin you must maintain in order to trade. These tables should help you in calculating your needed margin: 

There are tons of formulas, which should have helped you with calculating your margin requirement, but if you will stick with these tables, which can be used in about 99% of cases, you should be okay.

Beware! that some brokers can close out your positions (trades) until the required margin has been restored.