What Are Basis Points (BPS)?
Basis points (bps) refer to a standard measurement unit for interest rates and other percentages in finance. One basis point is equal to 1/100th of 1%, or 0.01%, or 0.0001, and denotes the percentage change in a financial instrument. The relationship between percentage changes and basis points can be summarized: 1% change = 100 basis points and 0.01% = 1 basis point.
For example, a change in an instrument is stated to be 80 basis points. The conversion is as follows:
80 basis point to percentage = 80/100 = 0.8%
Another example, the change for another instrument is 2%. The conversion is as follows:
2% to basis points = 2 x 100 = 200 basis points.
What does basis point mean?
The need for this type of measure comes from the confusion which may arise when changes are stated only in percentages.
For example, saying that the rate of 10 percent has a positive change of 2 percent is difficult to understand.
So is the change from the current 10 percent to 12 percent or the increased rate is 10.2 percent?
Avoiding this kind of misinterpretation is possible when changes are stated in basis points.
When something changes by 20 basis points, it is clear that the change is 0.20 percent.
The basis points could indicate a change in the interest rates, bond yields, stock prices, and other financial assets.
Interest Rate Example
The current interest rate is 1 percent.
A central bank says it will increase its benchmark interest rate by 50 basis points.
This would mean that the new interest rate would be:
1 percent + 0.5 percent (or 50 basis points) = 1.5 percent