The risk/reward ratio compares what you can lose to what you can gain on a trade. It's one of the fastest ways to filter out setups that aren't worth your capital.
What is risk/reward?
Risk/reward (R:R) is the distance from entry to your stop-loss divided by the distance from entry to your target. A 1:2 trade risks $1 to make $2. It's a filter, not a prediction — the actual outcome depends on your win rate.
Why it matters
R:R tells you how often you need to win to stay profitable. At 1:3 you can lose two out of three trades and still make money. At 1:1 you need to win more than half. It turns "it felt good" into a number you can evaluate before risking a cent.
The formula
Breakeven win rate
At 1:2 you need to win just 33% of trades to break even. At 1:0.5 you'd need to win 67%. That's why many professionals target 1:2 or better.
Worked example
Entry $100, stop $96, target $110
Risk = $4, reward = $10 → R:R = 1:2.5
Breakeven win rate = 1 ÷ 3.5 ≈ 28.6%
So winning just over one trade in three keeps you profitable.
Don't force a ratio
- Set the target at structure, not at a round R:R. Pushing a target to hit 1:3 can turn winners into losers.
- High ratio + low win rate can still lose if wins are rare and fees are high.
- Match ratio to edge: a strategy with many small wins suits a tighter ratio; a swing strategy needs a bigger one.