The risk/reward ratio (R:R) expresses how much potential profit you're targeting relative to how much you're risking on a trade. A 1:2 R:R means you risk $1 to potentially make $2. A 1:3 means risking $1 to potentially make $3. Calculating this before entering a trade is one of the most important habits in risk management.
The Formula
For a long trade: R:R = (Take profit − Entry) ÷ (Entry − Stop loss)
For a short trade: R:R = (Entry − Take profit) ÷ (Stop loss − Entry)
Example: Entry at $100, stop loss at $95, target at $115. Risk = $5, reward = $15. R:R = 1:3.
Break-Even Win Rate
Each R:R ratio has a minimum win rate required to break even. Knowing this tells you whether your strategy needs to be high-probability (many winners) or can afford to be low-probability (fewer but larger winners):
- 1:1 R:R → break-even win rate: 50%
- 1:1.5 R:R → break-even win rate: 40%
- 1:2 R:R → break-even win rate: 33%
- 1:3 R:R → break-even win rate: 25%
- 1:4 R:R → break-even win rate: 20%
At 1:3, you can be wrong three out of four trades and still break even — before accounting for commissions. This is why high R:R setups are sought after: they're forgiving of a low win rate.
R:R vs Probability
A high R:R doesn't automatically make a trade worth taking. A 1:5 setup where price has to travel through major resistance to reach the target has a low probability of success. The expected value of a trade is R:R × win rate — both matter. A 1:2 setup with a 60% win rate is more valuable than a 1:5 setup with an 8% win rate.