Direct answer
A worked example of Reward Risk Calculation shows how to compute a reward-to-risk ratio from assumed price levels, then interpret the ratio without assuming any guaranteed outcome. The calculation compares the distance from an entry price to a take-profit level (reward) with the distance from the entry price to a stop-loss level (risk).
Mechanism and definition
Reward Risk Calculation is a numerical comparison. A common form is:
- Reward-to-risk ratio = (Reward) / (Risk)
- Reward is the difference between the entry and take-profit prices (often measured in pips/points).
- Risk is the difference between the entry and stop-loss prices (often measured in pips/points).
Key input choices:
- Entry price: the assumed starting price.
- Stop-loss level: the assumed level that limits the loss.
- Take-profit level: the assumed level where the gain is taken.
- Measurement unit: use one consistent unit for both reward and risk (for example, pips or points). If you convert units, do it before dividing.
Stable mechanics vs variable conditions:
- Stable mechanics: the arithmetic relationship between the assumed price distances.
- Variable conditions: actual results depend on market movement, execution quality, and costs. Those factors can change realized outcomes even when the ratio is computed correctly from assumptions.
Evidence or example (worked scenario with assumptions)
Worked example (assumptions stated explicitly):
- Assume a long position with:
- Entry price = 1.2000
- Stop-loss price = 1.1970
- Take-profit price = 1.2060
- Measurement unit = price difference in “points” (here, just subtracting prices consistently)
- Compute risk distance:
- Risk = Entry − Stop
- Risk = 1.2000 − 1.1970 = 0.0030
- Compute reward distance:
- Reward = Take-profit − Entry
- Reward = 1.2060 − 1.2000 = 0.0060
- Compute the reward-to-risk ratio:
- Reward-to-risk = 0.0060 / 0.0030 = 2.0
Interpretation without promises:
- A ratio of 2.0 means the assumed reward distance is twice the assumed risk distance.
- This does not mean profits are guaranteed; it only describes the relationship between the assumed target and the assumed stop distance.
Limitations and risks (material failure modes)
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Costs and execution can break the relationship between “distance” and “outcome.” Even if reward-to-risk is 2.0 from price levels, transaction costs, slippage, or delays can reduce realized gains or increase realized losses.
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The stop-loss level may not behave as assumed. In fast markets or low liquidity, the realized exit can differ from the intended stop level, changing the actual risk.
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Ratios can be misleading when compared across setups. If position sizing, contract size, leverage, or currency conversion differs, “same ratio” in price distance may correspond to different monetary amounts.
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Verification risk: mixing units incorrectly (for example, reward in pips and risk in points) creates wrong ratios.
Verification or next question
To independently verify a reward-to-risk calculation, repeat the arithmetic using the same assumptions and a single consistent unit:
- Compute Risk = (Entry − Stop) or (Stop − Entry) depending on direction.
- Compute Reward = (Take-profit − Entry) or (Entry − Take-profit) depending on direction.
- Divide Reward by Risk.
Next question to consider: “What would change the realized risk or reward relative to the assumed distances?” The answer typically involves costs, execution quality, and whether the exits occur near the intended levels.