What is Risk to Reward Ratio in Investing?

The risk to reward ratio is an important metric in the world of investing. It tracks the amount that you are putting at risk and the expected (or hoped for) return on each trade. Investors that are smart with their bankrolls will always have one eye on the risk to reward ratio.

To make sure that your trades are operating within that risk: reward ratio, you use stop losses. Let’s say that you invest in shares worth $20 each, and put a stop loss at $15 – you are risking $5 per share if the trade goes wrong.  You expect, though, and place an order to take profits from best stocks, that the share will go up to $30. This means you’re hoping to gain $10 per share.

So, you have a risk to reward ratio of 1:2 on that trade.  This is a standard rate, and it is something that most investors are willing to accept. Some unyielding trades have an even more favorable risk: reward ratios.

It is not a good idea to make deals that are riskier than 1:2, or to trade without putting stop losses in place – especially if you are trading using a lot of leverage. If you end up getting a margin call because overnight the markets tanked, then you will find that a thoughtless trade could cost you not just the amount in your trading account, but some money from your savings too. Always think about the worst case scenario so that you can protect yourself from it.

Investors should always work to take emotion out of what they are doing. There is no room for “being on a roll” or “getting out of a slump” trade based on education of the fundamentals and applications of technical analysis if you want to succeed.