The risk-reward ratio (also called the risk/reward ratio or R/R ratio) is one of the most used metrics in trading stocks, cryptocurrencies, and derivatives to evaluate whether a trade is worthwhile in terms of expected gain versus possible loss.
📊 Basic formula
Risk-Reward Ratio = Potential Gain / Potential Loss
Where:
Potential gain = (Target price – Entry price)
Potential loss = (Entry price – Stop Loss)
🔎 Example in stocks
Suppose you want to buy Apple (AAPL) at $180:
Target price: $200 (you expect it to rise there)
Stop loss: $170 (you would exit if it drops to here)
➡️ Potential gain = 200 – 180 = $20
➡️ Potential loss = 180 – 170 = $10
R/R = 20/10 = 2.0
This means that for every $1 of risk, you expect to win $2.
🔎 Example in cryptocurrencies
You want to buy Bitcoin (BTC/USDC) at $60,000 (example price):
Target (Take Profit): $66,000
Stop loss: $58,000
➡️ Potential gain = 66,000 – 60,000 = $6,000
➡️ Potential loss = 60,000 – 58,000 = $2,000
R/R = 6,000/2,000 = 3.0
For every dollar risked, your expectation is to win three.
📌 General interpretation
R/R < 1 → Bad (you risk more than you can win).
R/R = 1 → Neutral (you risk the same as you can win).
R/R ≥ 2 → Good (recommended ratio by traders for the strategy to be sustainable).
R/R ≥ 3 → Very attractive, but less frequent in practice.
👉 That said: a good ratio does not guarantee success. It must be complemented with the hit rate (win rate) for example between 40% - 70%...
🔑 Relationship with risk management
There is the formula for mathematical expectation:
E = (Probability of winning • Average Gain) - (Probability of losing • Average Loss)
Here it is seen that a trader with a low hit rate can still be profitable if they maintain high ratios (example: R/R ≥ 3).
