Glossary
Risk-Reward Ratio
Risk Management
The risk-reward ratio compares the distance to a trade's stop-loss with the distance to its profit target.
A 50-pip stop and a 150-pip target is a 1:3 ratio. The ratio sets the break-even win rate: break-even win rate = 1 / (1 + reward-to-risk). At 1:1 you need to win above 50% of trades, at 1:2 above 33.3%, at 1:3 above 25%.
Because the ratio and the win rate move against each other — wider targets are hit less often — a strategy must be judged on expectancy, which is (win rate x average win) minus (loss rate x average loss).