Lesson 4 of 6 · Risk & Position Sizing
Risk/reward
What 1R means.
The amount you risk on a trade is 1R. If your stop loss costs $100 in dollar terms, 1R = $100. A 2R winner returns $200. Your risk reward ratio measures how many R's the target is worth.
Entry, stop, and target on the chart.
Entry in the middle. Stop 1R below. Target 2R above. At this ratio you need to win only 34% of trades to break even after costs.
The break-even math by ratio.
At 1:1, you need more than 50% winners just to cover costs. At 1:2, you need 34%. At 1:3, you need 26%. That last number is the point: a trader who loses three of four trades with 3R winners only breaks even, and costs push it negative.
You risk $100. Your target is $180 away. What is the risk/reward ratio?
Show the answer
B. 1:1.8. Target ($180) / risk ($100) = 1.8. The ratio is 1:1.8, just under the 1:2 minimum many traders use.