Forex risk reward ratio strategy
The main difference between an amateur trader and a professional one is that the latter always aims to know and manage his portfolio’s risks. 3500 forex risk reward ratio strategy places his stop-loss order at 1. 3450 and his take profit at 1.
3650, he’s risking 50 pips for a potential profit of 150 pips. A risk reward ratio of 3:1 statistically provides a trader with a greater likelyhood of being profitable in the long term. A trader can lose 2 out of 3 trades and still make money! Proper money management also requires that a trader calculate the financial risk in terms of the capital that’s available in one’s account. To do this, you must calculate the value of each pip and determine the lot size according to your profit target and stop-loss levels. Last time I talked about how traders become overly concerned with a high win rate.
But what is really going on is they are trying to avoid the feelings associated with loss. In my opinion, loss is just part of trading so it is best to come to grips with losing trades and plan for them. Basically, it is not important how many trades you win as long as you have the right risk to reward ratio. By that I mean you set the trade up so you win more money on winning trades than you lose on losing trades.
It would be wonderful to win often and gain a lot more on every winning trade than you lose on the occasional loss. I don’t want to burst your bubble, but this kind of trading system does not exist. As I discussed in the previous post, you can create a high win rate trading system by using a huge stop loss and small take profit. The problem is you lose a lot more on the occasional loser than you make on the winning trades. In the end, it is better to focus more on your risk to reward ratios than on your win loss rate. As you can see, there were a lot of losing trades.
But the one winner was big enough to cover all the losses and be very profitable. I’m not saying you should trade a system like this. I am using this as an example to show how you can have a terrible win loss rate and still end up with a profitable system. Swing traders and position traders can weather a lot of small losses if they hold on for maximum profits on the trades that go their way. Beginning VS Real Risk To Reward RatioI want to mention this as I come across this a lot. There are a lot of systems claiming to have a good risk to reward ratio because they set up the trade with a risk to reward ratio of 1:1, 1:1.
This is the beginning risk to reward ratio. But the real risk to reward ratio is what happens when the trade is closed. Many times trades are closed early for one reason or another well short of the initial take profit levels. This makes the real risk to reward ratio a lot less than the beginning risk to reward ratio, and often time less than 1:1. I consider this one of the best reasons for automating your trading strategy, or at least automating the exit portion of the trade.
Too often, we get into trades with the best intentions of letting the trade run to either the stop loss or take profit, but close the trade early. We either see price going against us and close the trade to avoid a bigger loss, or we see the trade going in our favor and want to make sure we make some profit by closing the trade early. The combination of the two is what determines if your trading strategy is profitable or not. So, what should you shoot for? I like to have a risk to reward ratio of at least 1:1. It is even better to shoot for 1:2 or higher. You don’t need to freak out about every loss, because they are expected.