Module 1: Position sizing and stops · Lesson 4 of 8
Risk-reward ratio and win rate
3 min read
The risk-reward ratio compares what you stand to lose on a trade with what you aim to gain. Combined with your win rate (the share of trades that win), it decides whether a strategy can make money over time.
Reading the ratio
If you risk 20 pips to target 40 pips, the risk-reward ratio is 1:2. You are aiming to make twice what you risk. Traders often express this as "2R", where R is the amount risked on the trade.
The break-even win rate
You do not need to win most of your trades to be profitable if your winners are larger than your losers. The break-even win rate, before costs, is:
Break-even win rate = 1 ÷ (1 + reward-to-risk)
| Risk-reward | Break-even win rate |
|---|---|
| 1:1 | 50% |
| 1:1.5 | 40% |
| 1:2 | about 33% |
| 1:3 | 25% |
Example: You take 10 trades, each risking $100 with a $200 target (1:2). You win 4 and lose 6. Winners make 4 × $200 = $800 and losers cost 6 × $100 = $600, leaving $200 profit before costs, even though you lost more often than you won.
The trade-off
Bigger targets are reached less often. A 1:5 target looks attractive, but if price rarely travels that far, your win rate may drop below 17%, the break-even level for that ratio. Very small targets win often but need a high win rate to cover the losers. There is no perfect ratio; the aim is a combination that your own track record supports.
Do not forget costs
Spreads, commissions and swaps act like a small extra loss on every trade. They push your real break-even win rate slightly higher than the table shows, especially for strategies with tight stops and small targets.
Measuring your own numbers
Keep records of at least several dozen trades, ideally more, before trusting your win rate. A handful of trades can be misleading because of luck.
Risk: Past win rates do not guarantee future results. Market conditions change, and any strategy can go through long losing periods.
Key takeaways
- Risk-reward compares your potential loss with your target gain on each trade.
- Break-even win rate = 1 ÷ (1 + reward-to-risk), before costs.
- With 1:2 trades, winning about a third of the time breaks even before costs.
- Trading costs raise the win rate you actually need.
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