GLOSSARY // Risk & Psychology
Risk-Reward Ratio
The risk-reward ratio compares what a trade can lose against what it can plausibly make: the distance from entry to stop versus the distance from entry to target. A trade risking $1 to make $3 has a 1:3 risk-reward ratio.
The ratio sets the win rate a strategy needs to break even: breakeven win rate = risk / (risk + reward). At 1:1 the trader must win more than 50% of the time; at 1:3, anything above 25% is profitable before costs. That math is why experienced traders pass on setups where the target sits barely past the stop — the required accuracy is too high.
Entry at $50.00 with a stop at $49.00 and a target at $53.00 risks $1 to make $3, a 1:3 ratio. Breakeven win rate is 1 / (1 + 3) = 25%. If the trader actually wins 40% of the time, 100 trades at $200 risk each produce roughly 40 x $600 - 60 x $200 = $12,000 before commissions.
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Educational only — not financial advice. Definitions simplified for clarity; markets are messier than definitions.