Many financial market traders have one question on their minds; “How do I find a balance between my risk tolerance and my reward when trading online?” This is a question that Samuel Fletcher, one of the top financial analysts at Wilkins Finance has been asked a lot over the course of several years. When setting a high-risk high-reward trading strategy, a trader needs to micromanage how this trade will be executed. Let’s look at how this is done.
Calculating RRR or Reward Risk Ratio
The reward RRR takes into account the length of where you enter the market to where you have set a stop loss to make profit. These numbers are then taken and then compared to each other. A Reward Risk Ratio Formula would be calculated as follow: RRR = (Take Profit – Entry )/(Entry – Stop loss). A good example would be to say that the length between market entry and your stop loss is 60 points and the length between market entry and where your take profit is 120 points. This means that the RRR is 2:1 as 120/2 = 2.
Calculating the Minimum Winrate
Once you determine what your reward to risk ratio for the trade you are making is, you can calculate what the best winrate is to get you profit. The winrate formula is calculated as follow: Minimum Winrate = 1 / (1 + RRR). When executing a trade with a 1:1 RRR, your winrate has to be bigger than 50% to in order to make a profit and will be calculated as 1 / (1+1) = 0.5 = 50%. This is an important calculation because if you take trades that have a small RRR you will lose money over the long term, even if you think you find good trades.
When taking these two formulas into consideration, it is easy to see that you don’t need a big risk to reward ratio or a high winrate in order to make a profit. It is essential to remember that if your RRR and your winrate match, you can expect a positive outcome.
Determine your exit point in advance
In spite of the fact that you have computed the ideal risk to reward strategy, you may still lose capital if you don’t determine your exit point in advance. While you might have the capacity to escape without having to do this, you can’t disregard the importance of planning your exit strategy beforehand. You can’t compute risk without knowing where you expect to leave the market. That goes for your stop losses and your profit margins as well. Without knowing these levels, you are not able to calculate your RRR. To compute your RRR, you should first know what your risk tolerance is. With that said, before executing your next trade, ensure you have determined what your exit strategy is and what your profit margin will be should your trade be successful. Begin with the position of the stop loss and then utilize the above-mentioned formulas to decide whether the risk to reward is possible. Assuming this is the case; continue with the trade, otherwise, it is best to wait for a better opportunity.
One reason numerous traders are against utilizing a risk to reward formula is on the grounds that it’s hard to decide if a market will achieve its objective. Nonetheless, there is no sure way of telling what will occur next in any financial market. All a trader needs to be able to do in order to trade successfully is to be able to find the direction a market is likely to go. Simply make sure to draw your key levels, assess trading volumes and utilize estimated targets when you find it possible.
To wrap things up, make sure that your stop loss is in place before entering the market. This will enable you to decide if the financial market price is in your favour, thus lowering the added risk of emotional decision making. In essence, managing high risks to get high rewards is all about keeping your emotions in check. After all, trading is as much about what’s in your head as it is about what’s in your wallet…