Pips, Lots, and Leverage Explained: A Friendly Guide to Forex Basics

 Pips, Lots, and Leverage Explained: A Friendly Guide to Forex Basics

Overview

If you’re new to forex, words like “pips,” “lots,” and “leverage” can feel like a secret code. The good news? Once you understand these three, the whole market starts to make sense. Think of it like driving a car:

- Pips are the small movements in price (your speedometer).

- Lots are how big your position is (the size of your engine).

- Leverage is the turbo boost (powerful but risky if misused).

By the end of this guide, you’ll be able to read charts more confidently, size trades sensibly, and understand how much you’re risking before you click “Buy” or “Sell.” Let’s get you moving.

What Is a Pip?

A pip (short for “percentage in point”) measures price movement in a currency pair. It’s the smallest standard move most brokers use for quoting prices.

• For most pairs (like EUR/USD): 1 pip = 0.0001
• For JPY pairs (like USD/JPY): 1 pip = 0.01
• Some platforms also show an extra decimal (called a “pipette”), which is one-tenth of a pip. Example: EUR/USD moving from 1.10000 to 1.10005 is a 0.5 pip move.

Examples:

- EUR/USD moves from 1.1000 to 1.1015 → 15 pips up.

- USD/JPY moves from 145.20 to 145.45 → 25 pips up.

Why pips matter:

- Pips are how you measure profit and loss.

- Your gains or losses = number of pips moved × the pip value for your position size.

What Is a Lot?

A lot is the position size you trade. In forex, positions are measured in units of the base currency (the first currency in the pair).

Common lot sizes:

• Standard lot (1.00) = 100,000 units
• Mini lot (0.10) = 10,000 units
• Micro lot (0.01) = 1,000 units
• Nano lot (0.001) = 100 units (offered by some brokers)

For pairs where USD is the quote currency (e.g., EUR/USD), the pip value is roughly:

• 1.00 lot → $10 per pip
• 0.10 lot → $1 per pip
• 0.01 lot → $0.10 per pip
• 0.001 lot → $0.01 per pip

Handy table (EUR/USD as example):

• 1.00 lot (100,000 units): ~$10 per pip
• 0.50 lot (50,000 units): ~$5 per pip
• 0.10 lot (10,000 units): ~$1 per pip
• 0.05 lot (5,000 units): ~$0.50 per pip
• 0.01 lot (1,000 units): ~$0.10 per pip

Note: For JPY pairs or when your account isn’t in USD, pip values differ slightly because they’re in the quote currency. Many brokers offer a pip value calculator—use it to double-check.

What Is Leverage (and Margin)?

Leverage lets you control a larger position with a smaller amount of your own money (margin). It’s expressed as a ratio like 30:1, 50:1, or 100:1.

- Leverage = Position size / Margin used

- Margin requirement (%) = 1 / Leverage

  - Example: 50:1 leverage → 2% margin requirement

Leverage vs. margin requirement:

• 1:1 → 100% margin
• 5:1 → 20% margin
• 10:1 → 10% margin
• 20:1 → 5% margin
• 30:1 → ~3.33% margin
• 50:1 → 2% margin
• 100:1 → 1% margin

Example:

• You buy 0.10 lots (a mini lot) of EUR/USD at 1.1000.
• Notional value ≈ 10,000 EUR × 1.1000 ≈ $11,000.
• With 50:1 leverage, margin required ≈ $11,000 / 50 = $220.

Leverage magnifies both gains and losses. A 1% price move on a highly leveraged position can hit your account hard. That’s why risk management matters.

How Pips, Lots, and Leverage Work Together (Real Examples)

Example A: EUR/USD trade

Account balance: $1,000

• Pair: EUR/USD
• Position: 0.05 lot (5,000 units)
• Pip value: About $0.50 per pip
• If price moves +20 pips in your favor → Profit ≈ 20 × $0.50 = $10
• If price moves −25 pips against you → Loss ≈ 25 × $0.50 = $12.50

Margin check (50:1 leverage):

• Notional ≈ 5,000 × 1.1000 = $5,500
• Margin ≈ $5,500 / 50 = $110
• You still have plenty of free margin, but always watch your total exposure.

Example B: USD/JPY trade

• Account balance: $1,000
• Pair: USD/JPY at 145.00
• Position: 0.10 lot (10,000 units)
• Pip size for JPY pairs: 0.01
• Pip value in JPY: 10,000 × 0.01 = 100 JPY per pip
• Convert to USD: 100 JPY / 145 ≈ $0.69 per pip
• A 40-pip loss ≈ 40 × $0.69 = $27.60

Key takeaway:

• The same “lot size” can produce different pip values across pairs.
• Always estimate P/L in your account currency before placing the trade.

Position Sizing: How Big Should You Trade?

Position sizing protects your account. A common rule is to risk only 1–2% of your account per trade.

Two-step method:

1) Decide your risk per trade (in $):

• Risk ($) = Account balance × Risk %
• Example: $1,000 × 2% = $20 risk

2) Calculate position size using your stop-loss distance:

• Position size (in lots) = Risk ($) ÷ [Stop (pips) × Pip value per 1.00 lot]
• For EUR/USD, pip value per 1.00 lot ≈ $10.

Example:

- Account: $1,000; Risk: 2% = $20

- Stop-loss: 30 pips on EUR/USD

- Position size = 20 ÷ (30 × $10) = 20 ÷ 300 = 0.066 lots (≈ 0.07)

- That’s roughly 0.07 lots (7,000 units). Pip value ≈ $0.70/pip; a 30-pip loss ≈ $21.

For JPY pairs:

• Either use your broker’s pip calculator or convert pip value to USD first. Then plug it into the same formula.

Don’t Forget Costs: Spread, Commission, and Swap
Trading isn’t free. You’ll likely face:

• Spread: The difference between buy (ask) and sell (bid) prices. If the spread is 1.2 pips and your pip value is $1/pip, you start −$1.20 when you open the trade.
• Commission: Some accounts charge a fixed fee per lot (e.g., $7 per round-turn per standard lot). Mini and micro trades cost proportionally less.
• Swap (overnight financing): Holding positions overnight can pay or charge interest depending on the pair and direction.

Tip: If you scalp (take small moves), spreads and commissions matter a lot. If you swing trade (hold longer), swap rates matter more.

Common Mistakes (and How to Avoid Them)

• Overleveraging: Using high leverage makes small moves dangerous. Solution: Keep your per-trade risk low (1–2%), use stops, and don’t max out margin.
• Ignoring pip value: Not all pairs pay the same per pip. Solution: Estimate pip value for your exact lot size and pair before trading.
• No stop-loss: Hoping a losing trade will “come back” is costly. Solution: Set a stop at a logical technical level and size your position around it.
• Forgetting fees: Spreads, commissions, and swaps can turn a breakeven trade into a loss. Solution: Know your costs upfront.
• Mixing account and quote currencies: Pip value changes if your account isn’t in USD. Solution: Use a calculator or a quick conversion to your account currency.
• Trading news blind: Volatility during major news can cause slippage. Solution: Check the calendar and consider wider stops or staying flat.

Quick FAQs

Are pips the same for every market?

  - No. Forex uses pips; gold (XAUUSD), indices, and crypto use “points” or different tick sizes. Check your broker’s spec sheet for each instrument.

What’s a “pipette”?

  - One-tenth of a pip. It gives finer precision (e.g., 1.10005).

Can I change leverage later?

  - Often yes, inside your account settings, but it depends on your broker and local regulations.

What’s a margin call?

  - When your equity falls too low relative to your used margin, your broker may alert you or start closing trades to protect your account (stop-out). Keep free margin healthy.

Do I always need big leverage?

  - No. Many successful traders use moderate or low leverage and rely on consistent risk control.

Mini Practice (Try This!)

- You have $2,000 and want to risk 1.5% per trade with a 25-pip stop on EUR/USD.

  - Risk ($) = $2,000 × 1.5% = $30

  - Position size = 30 ÷ (25 × $10) = 30 ÷ 250 = 0.12 lots

- Now try USD/JPY at 150.00 with a 40-pip stop and $20 risk. First, estimate pip value for 1.00 lot:

  - Standard lot pip value ≈ (100 JPY per pip) ÷ 150 ≈ $0.67 per pip per 0.10 lot? Careful—per 1.00 lot it’s about $6.67/pip.

  - Position size ≈ 20 ÷ (40 × $6.67) ≈ 20 ÷ 266.8 ≈ 0.075 lots

Quick-Start Checklist

Know your terms:

•   Pip = smallest price move
•   Lot = trade size
•   Leverage = borrowed power (watch margin)

Plan your trade:

•   Decide risk % (1–2% is common)
•   Set a logical stop-loss distance (in pips)
•   Calculate position size from risk and stop

Place and manage:

•   Check spread/commission
•   Place stop and take-profit
•   Track free margin and avoid overexposure

Learn and adapt:

•   Use a journal to record entries, exits, reasons, and emotions
•   Review weekly; tweak what isn’t working

Putting It All Together

• Pips tell you how far price moved.
• Lots determine how much you gain or lose per pip.
• Leverage controls how much margin you need—and how fast your account can grow or shrink.

A smart trader decides the risk first, sets a stop-loss, then calculates position size. That way, you’re never surprised by a big swing. Even with a small account, this approach lets you compound carefully and stay in the game long enough to learn what works.

Final tip: Keep it simple at the start. Trade one or two major pairs (like EUR/USD or USD/JPY), stick to micro or mini lots, and focus on consistency. The goal isn’t to win every trade; it’s to control risk and let your edge play out over many trades.

Note: This guide is for education only. Always check your broker’s specifications, and practice on a demo account before risking real money.