Risk Reward

Filed under: Learn Forex Trading |

Okay, so I’ve been banging on about this in the “Daily Trade” so I think it is time to cover the subject in a little more detail – the risk-reward.  So what is it and why is it so important? Well, it all comes down to probability and numbers. Let’s start with an example…

If you take a risk reward ratio of 1:1 on every trade (that means your risk is exactly the same as your potential reward), then you will need to be successful on 50% of your trades just to break even. So if you want to be profitable, then you would need to be successful on a majority of your trades.

Next, if you had a risk reward of 1:2 on every trade (this means that if you risk $100 on a trade, then your potential reward would be $200), then you would need to be successful on only 33% of your trades to break even. So if you want to be profitable, then you would only need to be successful on over 33% of your trades.

If you had a risk reward of 1:3 on every trade (this means that if you risk $100 on a trade, then your potential reward would be $300), then you would need to be successful on only 25% of your trades to break even. So if you want to be profitable, then you would only need to be successful on over 25% of your trades!

So as you can see, the higher your risk reward setup, the more likely you are to be profitable over the long term. However, everyone is different and have a different pain threshold, so some people will find it hard to take on the higher risk reward setups and take a lot of losers for just a few winners. In the end, it is a personal decision. But it seem logical from a mathematical viewpoint to not take a risk reward of less than 1:2.

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