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The risk/reward ratio is one of the most powerful concepts in trading. It tells you how much you stand to gain compared to how much you risk. A positive risk/reward ratio is the difference between profitable traders and everyone else.
Risk/reward compares your potential profit (reward) to your potential loss (risk). If you risk 20 pips to make 40 pips, your risk/reward ratio is 1:2. If you risk 20 pips to make 20 pips, the ratio is 1:1. If you risk 20 pips to make 10 pips, the ratio is 2:1 – meaning you need to win twice as often as you lose just to break even.
Risk/Reward Ratio = Stop Loss Distance ÷ Take Profit Distance
Example: Stop loss = 25 pips, Take profit = 75 pips
Calculation: 25 ÷ 75 = 0.33 (or 1:3 ratio)
With a 1:3 risk/reward ratio, you can lose 7 out of 10 trades and still make money. Let us prove this:
With a 1:1 ratio, you need 6 winning trades out of 10 just to break even (6 wins × 20 pips = 120, 4 losses × 20 pips = 80, net +40). With 1:2 (risk 20 to make 40), you need 4 wins and 6 losses to break even.
Professional traders typically target 1:2 or higher. Some scalpers accept 1:1.5 if their win rate is high (60%+). Swing traders often target 1:3 or higher. Never take a trade with less than 1:1.5 – the math does not work in your favor.
Step 1: Identify your entry price.
Step 2: Place your stop loss based on market structure (below support for long trades, above resistance for short trades).
Step 3: Place your take profit at your target level.
Step 4: Calculate the pip distance for both.
Step 5: Divide stop loss distance by take profit distance.
You want to buy EUR/USD at 1.09500. Stop loss at 1.09300 (20 pips risk). Take profit at 1.10100 (60 pips reward). Risk/reward = 20 ÷ 60 = 0.33 (1:3 ratio).
Now calculate the dollar amount. With $10,000 account, 1% risk ($100), 20-pip stop loss on EUR/USD. Using our pip calculator, position size = 0.50 standard lots (5 mini lots). If your stop loss hits, you lose exactly $100. If your take profit hits, you make $300.
The same risk/reward ratio requires different position sizes based on how wide your stop loss is.
Example with $10,000 account, 1% risk ($100):
- 20-pip stop loss → 0.50 standard lots
- 40-pip stop loss → 0.25 standard lots
- 10-pip stop loss → 1.00 standard lots
Wider stops mean smaller positions. Tighter stops mean larger positions but higher chance of being stopped out by normal volatility.
Traders often move their stop loss further away to keep the same position size. This increases risk dramatically. Always calculate position size based on your actual stop loss distance. Never guess.
Use our pip calculator to instantly determine position sizes that match your risk tolerance and stop loss distance. Never enter a trade without knowing both your risk/reward ratio and your exact dollar risk.
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