Speaker 1: In this video guys, let's quickly explain risk-reward ratio. Stick around. Hey traders, a warm welcome to you. Thank you for joining me. All right, so risk-reward ratio, what does it mean? We talk about it so many times. It's so crucial to your expectancy as a trader and it's so crucial to longevity as a trader. But what on earth does it actually mean? So let's imagine you are in a trade. You're looking for a trade and there's two real components. There's two components to a trade on a simple level, our entry and our exit. But once we've taken our entry, there are two outcomes. Either the trade is a losing trade or the trade is a winning trade. Let's forget break-even for now. And so when we take a trade, we hit the entry, we go long, for example, we've got a level where we're going to come out of our trade, which is usually our stop-loss position. And that's a distance from our entry to our stop-loss. And that distance is our risk, effectively. So imagine this example here. You've kind of got a bit of a drive higher. The market's consolidated a bit. And your strategy is, hey, you know what? We found some support here. What I'm going to do is I'm going to buy a break of that prior high. So kind of one, two, three reversal pattern. And I'm going to put a stop just here under the low. So in other words, hey, the structure of the trade suggests to me that we're going higher. I'm going to go long. My stop is going to be here. And my risk, what's my risk? So my risk is basically the distance from my entry to my stop-loss. So imagine if we took a break of the high right here. So the market breaks out and we go long here. Fine. The distance here from our entry, I use the black pen, you'll see a little bit better. Distance is here. So here, imagine our stop was at this position here. I just kind of did a big fuzzy level, if you like. But let's imagine it's here, a definite level. The distance from here to here is 25 pips. Fine. If it's 25 pips, that's our risk on the trade. Fine. We can quantify that. And again, the stop should be positioned based on a technical level or a level where they're more likely. A better way of thinking is where the trade is no longer valid. In this particular instance of one, two, three pattern, this kind of technique, we're breaking there. Stop's below the low. Pretty standardized stuff in the right conditions. Great. Stop is 25 pips. Fine. If it goes back below that low, the pattern is no longer valid. I don't want to take a trade. However, what's the reward on the trades? The reward is basically we'll be expecting the trade to go. Now, I know this is subjective and this is where people are a bit like, oh, that makes sense and stuff. And I get it. We have to have a little bit of poetic license here. But let's imagine we had the distance between there and there was 50 pips, which is X, your distance between that drive. And we kind of say, well, we're going to extrapolate that and we're going to use that as a target. Again, a pretty standardized approach for doing stuff. It doesn't have to be that way. It could be that the next key level is there. Could be that we're filling a gap if we're trading stocks. Could be that we're hitting all-time highs. Could be a whole number we're looking for. Any of these things. So, you know, it's basically this is how our trading ability comes in. We kind of assess the level we think it's going to go. In this case, we think it's going to go up and hit here, which is 50 pips because the drive was 50 pips. So we go, right, there's our reward. OK, if we hit our final target, we are going to get 50 pips reward. So now we have a trade that's structured and we've got 25 pips risk and we've got 50 pips potential reward. And notice this potential, we don't know this, but it's how we're trying to structure the trade. It's got a good chance of getting there. We think it's going to tag that level. Now we've got a risk reward ratio of 2 to 1. In other words, we're risking 1, 25 pips to make 2. So this number doesn't necessarily matter. That could be 250 pips as long as the reward is 500 pips or an order of magnitude because we're going to adjust our position size to suit the distance of our stop. If we're spread betting, for example, we want to risk 250 pounds. We're going to do 10 pounds a point. If we're prepared to risk 500 pounds, we'll do 20 pounds a point, etc. So the monetary value doesn't matter so much. The position size is adjusted depending on distance from the entry to the stop and how much we're prepared to risk per trade. So this is a 2 to 1. Now, obviously, if this was 75 pips, it would be a 3 to 1. If it was 100 pips, it would be a 4 to 1, etc. You get the idea. And if it was just 25 pips, it would be a 1 to 1. So that's the risk reward ratio. We're trying to decide where our price target could be. We're quantifying the risk by placing the stop at a sensible level. That's always going to be our fixed risk amount. Then our reward is where we think price could be. Now, some of the traps that we've got to be careful to fall into is saying, oh, I'll just pick 100 pips. I'll just use 100 pips. Well, that might be where it goes to. But you've got to kind of look at the market conditions. Are there rotations? Is that likely to happen in the time frame you're trading? If you're intraday trading, are you expecting too much from the price for that? Is it a feasible target based on the structure of the market at the moment? Is it range bound? Are you asking for something really unique from the market? So this is where the skill comes in as a trader. Say, OK, what's the reward potential? Where do I want to have my target for this trade? Is it a feasible target? And I will hold it to the target. And so you structure your trade. You go, OK, I'll take this trade. It's a 2 to 1 risk reward ratio. That's where the word comes from. And of course, the outcome of the trade may well differ. And it's important to log both of them. It's like, OK, I frame this trade as a 2 to 1. I got stopped out fine. Next trade I framed as a 2 to 1. Oh, I only got one and a half of my R, which is my risk. Why did I only get that? Well, because I took it out a little bit early, went in my direction, came back and decided to take it out. So you start to document things like, OK, where was my target? How far to the target did I go? Did I go, et cetera, et cetera, et cetera. So that's worth looking at, guys. Risk reward ratio, a very simple way to frame your trade. A rule of thumb is you want to have 2 to 1s at least. If you're going on a smaller time frame, you can get away with a little bit less. But I think if you're kind of going broader market, day trading, swing trading, 2 to 1 minimum, really, and trying to push it higher and higher and higher and finding those trades that really got a good chance of giving you a good reward for the risk that you're taking. Anyway, guys, that's risk reward ratio. Take care. Keep your risk managed. Whatever you're doing. I'll see you in the next one. Bye bye. Bye.