Risk reward ratioImportant stock market risk management toolRisk reward ratio is a very important stock market definition. Every trader must have this value set in his stock trading strategy This simple formula is a little stock trading secret. It helps you to move trading probabilities in your favor.This is one of key stock trading terms that helps to do good stock market risk management. And risk management is key part of profitable stock market trading. You can be great stock picker but without good stock market risk management you will be losing money. The stock market definition for this key value is simple: The profit value for every trade setup must be at least three times bigger than the risk value. Simply put, if you expect to make a profit of $3 USD per share in a trade, you have to risk $1 USD per share as maximum. This trading secret looks easy, but a lot of traders break this rule, and then their trading results are bad. When you trade only trades with the potential profit of $3 or more times bigger than the taken risk, your result will be stock trading with regular monthly income. Later, as you develop a longer history of your real trades, you’ll be able to make small modifications of this ratio to value that best fit your trading strategy. Your trading journal or trade accounting software will provide you enough reports to do it. It’s an easy to check if your trade setup fits with your risk/reward ratio. Simply use a spreadsheet with formulas. Example how to use spreadsheet for your risk/reward ratio calculation is described on money management page. My special stock market trading tipDon’t be afraid to reject a trade setup even you like it very much.There are plenty of other trade opportunities. You can find good stock picks on the stock market every day
Check this ratio during trade developmentI have described above how to use risk reward ratio when you prepare stock trading setup for your stock trading strategy. But it is not last time you use these formulas.You have to use this ratio also during trade management process. As you have trade already opened, you have to manage it accordingly. It means that you must trail stop loss level based on your trailing stop rules and also you must take profits. Risk reward ratio is used when you think about new trailing stop level. It is always good to have this ratio better then 1:1 as your trade is developing and you want to trail stop. As your trade is closer and closer to your expected
target,
trail stop to have risk smaller then possible profit. Always check this ratio when you do regular trade analysis during your
daily trading
and
analysis routine.
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