Basis Point

A basis point is a unit utilized in trading to represent a fraction of a percentage that indicates changes in the value of financial instruments. It is equivalent to one-hundredth of one percent, or 0.01%. Basis points are also known as bps, pronounced “bip” or “beep.” They serve as a measure of changes in asset values or interest rates. A basis point reflects a change expressed as a percentage of the value, meaning that a change of one basis point signifies a shift of 0.01 percent, while a 100 percent change corresponds to a change of 10,000 basis points. Thus, a basis point denotes one-hundredth of one percent (1/100 of 1 percent).

To convert basis points to percentages, one divides the basis points by 100. Conversely, to convert percentage changes to basis points, one multiplies the percentage by 100. For instance, if a financial instrument experiences a change of 80 basis points, the conversion would be: 80 basis points to percentage = 80/100 = 0.8%. In another example, if an instrument changes by 2%, the conversion would be: 2% to basis points = 2 x 100 = 200 basis points.

The necessity for this measurement arises from potential confusion when changes are expressed solely in percentages. For example, stating that a rate of 10 percent has increased by 2 percent can be unclear. It raises the question of whether the new rate is 12 percent or 10.2 percent. Such misinterpretations can be avoided when changes are articulated in basis points. When a change of 20 basis points is mentioned, it is evident that the change is 0.20 percent.

Basis points can indicate variations in interest rates, bond yields, stock prices, and other financial assets. For example, if the current interest rate is 1 percent and a central bank announces an increase of 50 basis points, the new interest rate would be calculated as follows: 1 percent + 0.5 percent (or 50 basis points) = 1.5 percent.