What is a Basis Point (BPS)

10 June 2024
4 min read
What is a Basis Point (BPS)
whatsapp
facebook
twitter
linkedin
telegram
copyToClipboard

The BPS full form in banking stands for Basis Points. It serves as a standard unit for measuring interest rates and other ratios. Basis points, also known as BPS, indicate changes in the value or price of financial assets. These metrics are useful for representing changes in interest rates in savings accounts, investments, etc.

To learn more in detail about basis points, keep reading this blog. 

What is BPS - An Overview

A basis point, or BPS, equals 1/100th of 1% or 0.01%, and in decimal form, it is 0.0001 (0.01/100).

The term ‘basis’ in basis point refers to the base difference between two percentages or the spread between two interest rates. Since these changes are usually small but significant, a basis point is used as a fraction of a per cent. It is widely used to calculate changes in the interest rates of financial instruments. 

Steps to Calculate BPS

Basis points represent a percentage of 1%. One basis point equals 0.01% or 0.0001 in decimal form. To change basis points to a percentage or the other way around, you need to multiply or divide it by 100.

Following is the formula to convert basis points to percentage

Basis Points ÷ 100 = Percentage

For example, if an interest rate is set to increase by 129 basis points, you can convert it to a percentage by using the equation:

129 Basis Points ÷ 100 = 1.29%

You can also do this quickly in your head by moving the decimal point two places to the left (from 129.0 to 1.29).

The following table shows the different percentages of different BPS:

Basis Points

Percentage

10,000

100% 

1,000

10% 

100

1% 

50

0.5% 

10 

0.1% 

0.01% 

Example of Basis Points

To understand BPS meaning more simply, let us take an example.

Suppose you invested in a government bond that has an interest rate of 12.50%. After a few months, the interest rate on that bond falls to 12.25%. You can calculate the change in the interest rate by applying the formula:

Percentage x 100 = Basis Points

0.25% X 100 = 25 Basis Points

Financial Instruments That Use Basis Points

Basis points are used in the following instruments:

  • Treasury Bonds

Issued by federal or state governments, Treasury bonds use basis points for purposes such as communicating the rate of interest and analysing the change in the rate of interest.

  • Corporate Bonds

Corporate bonds are debt instruments issued by companies to raise funds. Basis points measure changes in interest or coupon rates.

  • Credit Card Instruments

Interest rate changes on credit cards can be communicated and analysed using basis points.

  • Futures and Options

In stock market derivatives like futures and options, basis points measure the changes in return rates. 

Advantages of Basis Points

Now that you have learnt basis points meaning, let's have a look at some benefits of using the basis points system:

  • It prevents confusion when dealing with small percentage changes by providing an accurate number indicating the change. 
  • This metric clearly distinguishes between absolute and relative changes in interest rates, removing any ambiguity.
  • Basis points help investors track changes in stock indices.
  • Using the BPS system makes it easy to understand and communicate the changes in asset values. Clear communication is crucial for effective financial operations.

Importance of Basis Points

The concept of a basis point, as a measurement, plays an important role in finance for several reasons:

  • Precision

A basis point offers a precise way to express changes in financial metrics. It allows for accurate measurement of interest rates or yield changes, which significantly affect financial investments.

  • Standardisation

A BPS provides a consistent method for comparing financial metrics across various investments. This is essential for investors to evaluate the performance of different investment options.

  • Trading

In financial markets, basis points measure the spread between different investments. This helps traders spot profit opportunities by buying low and selling high.

  • Cost of Borrowing

Lenders often express interest rates in basis points. This helps borrowers compare loan options to zero in on the most cost-effective option.

  • Risk Management

Basis points help measure the risk of various investments. By understanding how interest rate or yield changes might impact them, investors can make better decisions about their portfolio allocations.

The Bottomline

Using BPS is a clear and efficient way to measure changes in interest rates for loans and debt instruments. It helps to clearly communicate the rate changes and their impact.

As an investor or market analyst, you should use basis points instead of percentages to effectively communicate value changes.

You may also be interested to know

1.

What is Corporate Insolvency Resolution Process

2.

Difference Between FERA and FEMA

3.

Financial Regulatory Bodies in India

4.

How Do Banks Make Money?

5.

How do Banks Calculate Interest on Savings accounts & FD in India?
Do you like this edition?
LEAVE A FEEDBACK
ⓒ 2016-2024 Groww. All rights reserved, Built with in India
MOST POPULAR ON GROWWVERSION - 5.0.5
STOCK MARKET INDICES:  S&P BSE SENSEX |  S&P BSE 100 |  NIFTY 100 |  NIFTY 50 |  NIFTY MIDCAP 100 |  NIFTY BANK |  NIFTY NEXT 50
MUTUAL FUNDS COMPANIES:  GROWWMF |  SBI |  AXIS |  HDFC |  UTI |  NIPPON INDIA |  ICICI PRUDENTIAL |  TATA |  KOTAK |  DSP |  CANARA ROBECO |  SUNDARAM |  MIRAE ASSET |  IDFC |  FRANKLIN TEMPLETON |  PPFAS |  MOTILAL OSWAL |  INVESCO |  EDELWEISS |  ADITYA BIRLA SUN LIFE |  LIC |  HSBC |  NAVI |  QUANTUM |  UNION |  ITI |  MAHINDRA MANULIFE |  360 ONE |  BOI |  TAURUS |  JM FINANCIAL |  PGIM |  SHRIRAM |  BARODA BNP PARIBAS |  QUANT |  WHITEOAK CAPITAL |  TRUST |  SAMCO |  NJ