It is just a fancy way of comparing how much money you could lose to how much money you could make.
A 1:2 Ratio: For every $1 you risk, you want to make $2.
Example: You buy a stock. You promise yourself you will sell it if it drops by $10 (your risk). But, you plan to sell it if it goes up by $20 (your reward).
A 1:5 Ratio: You risk $10 to make $50.
The Secret Ingredient: Your Win Rate
A good risk-reward ratio means absolutely nothing by itself. It all depends on how often you win.
Look at these three different styles to see how the math plays out:
Trading Style
The Setup
Needed Win Rate
The Reality
Style 1: Tiny Wins
Risk $20 to make $10
67%+
You win almost every time, but one loss wipes out two wins.
Style 2: Balanced
Risk $20 to make $40
34%+
A steady, classic approach. You can lose more than half your trades and still make money.
Style 3: Big Wins
Risk $20 to make $100
17%+
You make massive profits when you win, but you have to be okay with losing 8 out of 10 times.
The Big Takeaway
Don’t let anyone tell you there is only “one right way” to trade.
Aiming for huge wins is useless if you almost never win.
Aiming for tiny wins is perfectly fine if you win almost every time.
The Lesson: There is no magic formula. You just need to keep track of your own data. Once you know how often you actually win, you can pick the risk style that fits you best.
📝 How do you figure out your true win rate? You have to keep good records. We will talk about exactly how to do that in the next post!
