In plain English
What Risk–reward ratio means
The ratio is usually built from an entry price, a stop-loss level, and a target price. It expresses the payoff shape of one proposed trade before execution. A favorable-looking ratio does not establish that the target is likely to be reached, and it does not account automatically for spreads, commissions, financing, taxes, slippage, or partial fills.
Why it matters
Risk–reward ratio helps compare planned trades on a common cash basis, particularly where stop distances differ. It should be assessed alongside win rate and execution costs. A strategy can have many losing trades and still be profitable in principle if gains are sufficiently larger than losses, but there is no guarantee that either planned outcome will occur.
Example
A trader buys at 1.2000, places a stop at 1.1950, and a target at 1.2100. The planned downside is 50 pips and the planned upside is 100 pips. Ignoring transaction costs and assuming equal pip value in both directions, the risk–reward ratio is 1:2. A $100 planned loss corresponds to a $200 planned gain.
Quick answers
Common questions
Does a 1:2 risk–reward ratio mean a trade has twice the chance of winning?+
No. It only compares the planned amount at risk with the planned potential profit. The chance of either outcome depends on market behavior, the trading method, and execution conditions.
Are spread and commission included in risk–reward ratio?+
They should be considered when estimating net outcomes, but platforms and traders may display the ratio differently. Check whether entry and exit costs, financing, and expected slippage have been included.
Sources