Risk Reward Ratio Explained: Formula and Breakeven Win Rate

The risk reward ratio compares the amount you could lose on a trade against the amount you could gain. If your stop-loss sits 1 dollar below entry and your target sits 2 dollars above, your risk reward ratio is 1:2. It is the single number that, combined with your win rate, decides whether a strategy makes money over time.

What is the risk reward ratio?

The risk reward ratio is the relationship between the money you put at risk on a trade and the money you stand to gain if it works. Risk is the distance from your entry to your stop-loss; reward is the distance from your entry to your target. A 1:3 ratio means you are risking one unit to potentially make three.

It is one of the most referenced numbers in trading because it reframes a trade as a wager with defined downside and upside rather than a guess about direction. As Investopedia notes, the ratio lets you judge a setup before committing, and you can compute it instantly with the Bullynx risk/reward calculator. The ratio says nothing about probability on its own, which is exactly why it must be read alongside win rate.

What is the risk reward ratio formula?

The risk reward ratio formula is reward divided by risk, where each is a price distance from your entry. Risk is the gap between entry and stop-loss; reward is the gap between entry and target. The result is usually expressed as 1 to that number.

Risk    = | Entry Price - Stop-Loss Price |
Reward  = | Target Price - Entry Price |

Risk : Reward = Risk : Reward       (e.g. 100 : 200  ->  1 : 2)
Reward-to-Risk Ratio (R) = Reward / Risk

You will see this written two ways. "Risk reward 1:2" puts risk first; the "reward-to-risk" or "R multiple" convention divides reward by risk to get a single number (2.0 in that case). They describe the same setup. The R multiple is handy because a winning trade earns +2R and a loser costs -1R, which makes tracking performance across many trades clean and unit-free.

A worked example with numbers

Imagine a stock trading near 100 dollars. You identify a potential entry at 100, a stop-loss at 95 (because support sits just below), and a target at 110 (a prior resistance level). The two distances give you the ratio directly.

Risk   = | 100 - 95 |  = 5
Reward = | 110 - 100 | = 10
Ratio  = 5 : 10        = 1 : 2   (R = 2.0)

You are risking 5 dollars per share to potentially make 10, a 1:2 setup. If you sized the position to risk 100 dollars total (see our position size guide), a loss costs 100 dollars and a win earns 200. Over a run of these trades, the ratio combined with how often you win determines whether the account grows. That brings us to the most useful number the ratio produces: the breakeven win rate.

What is the breakeven win rate?

The breakeven win rate is the percentage of trades you must win for a given risk reward ratio just to break even, before costs. It is risk divided by the sum of risk and reward, which means a more generous reward lowers the win rate you need to stay afloat.

Breakeven Win Rate = Risk / (Risk + Reward)

For a 1:2 setup, that is 1 / (1 + 2) = 0.33, so you need to win more than 33 percent of trades to profit. This is the mathematical reason a strategy can lose most of its trades and still make money: at 1:3, the breakeven win rate falls to 25 percent. The chart below shows how the required win rate drops as the reward side grows.

The relationship is not linear: moving from 1:1 to 1:2 cuts the required win rate from 50 to 33 percent, but the gains shrink as you push the ratio higher. The takeaway is that ratio and win rate are two halves of one equation, explored in depth in win rate vs risk reward. Neither number is meaningful alone.

What is a good risk reward ratio?

There is no universally correct risk reward ratio, but many traders treat 1:2 as a sensible minimum because it keeps the required win rate comfortably below 50 percent. The honest answer is that a "good" ratio is one your win rate can actually clear over a large sample of trades.

The trap is assuming a bigger ratio is always better. A 1:10 setup looks irresistible on paper, but if the target is so far away that price almost never reaches it, the real win rate collapses below the breakeven line and the strategy loses money despite the gorgeous ratio. Whether a setup is "good" depends on its expected value, the long-run average outcome once probability is folded in, not on the ratio alone.

Expected Value per trade (in R)
  = (Win Rate x Reward) - (Loss Rate x Risk)

Plug in realistic numbers, not flattering ones. A 1:3 setup that wins 25 percent of the time has an expected value of zero; it only profits if your real win rate beats 25 percent. This is the calculation that connects the ratio to actual results, and it sits at the heart of disciplined trading risk management.

Common risk reward ratio mistakes

The ratio is simple, so the mistakes cluster around misreading what it does and does not promise. Avoiding these keeps the number useful.

1. Chasing huge ratios with unreachable targets. A 1:8 ratio is worthless if price rarely travels that far. Targets must be plausible levels, not wishful ones.
2. Ignoring win rate. A ratio without an estimated win rate cannot tell you if a strategy is profitable. Always pair the two.
3. Moving the stop or target after entry. Widening the stop to avoid a loss or trailing the target outward changes the ratio you committed to and usually for the worse.
4. Forgetting costs. Spreads, commissions, and slippage push your real breakeven win rate above the textbook figure, especially on tight ratios.
5. Treating one trade as the system. Even a positive-expectancy strategy produces losing streaks. The ratio works over many trades, not any single one.

Putting the risk reward ratio in context

The risk reward ratio turns a vague trade idea into a measurable wager: this much at risk, this much to gain, and a clear breakeven win rate you can test against your record. Used well, it stops you from taking setups where the math never had a chance, regardless of how confident the chart looked.

Read it as one input among several. Calculate the ratio before every potential entry, estimate the win rate honestly from past trades, and check that the expected value is positive across a realistic sample. The risk/reward calculator handles the arithmetic and the breakeven win rate in one step, leaving you to judge the only thing a tool cannot: whether your target and stop are placed at levels that actually make sense.