What are basis points?
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Key takeaways
- A basis point (bp) is a unit of measurement used to compare different percentages or ratios.
- To change a percentage into basis points, multiply by 100.
- To convert basis points to a percentage, divide the basis points by 100.
Basis points are used to express changes in interest rates, bond yields and other financial instruments. Knowing how to calculate basis points can be important for investors and traders as it provides a precise way to express small changes.
Here’s what you need to know about basis points, how they are calculated and how to convert them to a percentage.
How basis points work
In finance, a basis point (bp) is a standard unit used to measure a percentage. It’s equal to one-hundredth of a percentage point, or 0.01 percent. Basis points are commonly denoted by the abbreviations “bp” or “bps,” and are pronounced “bips.”
Basis points help communicate small percentage changes and are easier to say and understand without a calculator in hand. For example, a change from 4.25 percent to 4.50 percent is a difference of 25 basis points. Additionally, while percentage rates are often rounded to whole percentages, basis points keep the precision needed to acknowledge smaller differences.
How basis points are calculated
Basis points are a fixed numerical value. That makes them useful for measuring percentages, like interest rates, and for expressing changes at the decimal level.
How to convert basis points to a percentage
Divide by 100 to turn basis points into a percentage. To turn a percentage back into basis points, multiply by 100.
Basis points calculation example:
60 bps / 100 = 0.60%
0.60% x 100 = 60 basis points
Why basis points are used
Investors, traders and analysts use basis points to explain changes in interest rates or amounts more clearly. Basis points are especially helpful for comparing rates between different securities. For example, a federal funds rate target of 0.25 percent is equal to a target of 25 basis points. Likewise, an annual fee of 75 basis points is the same as 0.75 percent of the portfolio’s value. They provide a more reliable and consistent measurement of changes, rather than ratios of the percentage change in terms of movement.
When basis points are used
Basis points are essential in various financial instruments, including mortgage loans, common stocks and treasury bonds. The use of basis points is also common when discussing fixed-income security yields, equity indices and gross profit and operating margins. Additionally, bps can be used to express interchange fees, which are credit card processing fees.
Bottom line
A basis point is a unit of measurement used to compare different percentages or ratios. It is calculated by multiplying the percentage by 100 and is often used to measure incremental changes in interest rates, yields and other financial instruments. Understanding how basis points work can help investors make more informed decisions and better understand the implications of changes in financial markets.
