In the Forex market, you cannot buy or sell random quantities of currency. Instead, there are specific units with which you can trade. Unlike the stock market, in Forex, we deal with something called “Lots”. A lot is basically the amount of quantity you can trade in the market. A lot can also be defined as the number of units of a currency.
Types of Lots
Before, there was only one type of lot, and now, there are four. These lots are categorized based on the size of the lot.
The four types of lots are:
The lot size and the number of currency units for different types of lots are given in the table below.
Example: Buying one standard lot of USD/CAD means that you are purchasing 100,000 US dollars. Similarly, shorting one mini lot of GBP/CHF means that you’re selling 10,000 pounds.
How to calculate pip value(add “what is a pip?” link) for different lot sizes?
Pip value determines the value of each pip by considering the lot size of the trading currency.
Example 1: EUR/USD
The exchange rate of EUR/USD is 1.1140. Let’s calculate the pip value when 100,000 units of the currency are traded.
Pip value = (0.0001 / 1.1140) x 100,000 = 8.97 euros (8.97 x 1.1140 = 9.99 US dollars)
So, if you buy one standard lot of EUR/USD, you will make around $10for every pip that goes higher.
Example 2: USD/CAD
Assuming the current exchange rate is 1.3180, let us calculate the pip value when the one mini lot of USD/CAD is traded.
Pip value = (0.0001 / 1.3180) x 10,000 = 0.75 US dollar
Therefore, for every pip that moves in your direction, you will receive $0.75.
Example 3: USD/JPY
If the current exchange rate of USD/JPY is 108.80, then the pip value when 1,000 units (one micro lot) of the currency pair is traded is,
Pip value = (0.01 / 108.80) x 1,000 = 0.09 US dollar
Basically, if you trade 1,000 units of USD/JPY, then for every pip you will be gaining/losing $0.09.
The concept of leverage
Many novice traders have a conception that, to trade a standard lot in Forex, they must possess 100,000 units of the currency. However, this is a misconception. Even a small investor or a retail trader can trade a standard lot without owning 100,000 units of the currency.
This is made possible by the brokers. Brokers offer something called as “leverage trading”. In this type of trading, the broker acts like a bank where they provide you with the required money to take a position. However, to obtain that money, you will have to deposit some amount to the broker.
For example, if the leverage provided by the broker is 100:1, then it means that you need only 1% (0.01times) of the lot size you want to trade. So, if you willing to trade a position worth 100,000 US dollars, then you will require only 1,000 US dollars to take that trade. This $1,000 is held up by the broker as a deposit until the position is open, and is given back once the trade is closed.
Hence, this completes the lesson on “Lots” in the Forex market.
Below is a quiz for you to know how well you’ve understood the concept.