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Regarding risk/reward ratio

  • #1
  • First Post: Nov 13, 2007 12:26pm Nov 13, 2007 12:26pm
Hi there,

I understand how leverage, pip calculations, margin, etc all works although I am still having difficulty grasping how to calculate risk:reward ratio. I know where what my risk is, but does calculating the reward come from using S&R, pivots, etc? How exactly do experienced traders go about doing this - do they just let the trade play out if it's positive and hope for the best? What about retracing and calculating that into the equation? Does this just come from market intuition over time or is there a certain way to do it?

Thanks!
  • #2
  • Nov 13, 2007 12:43pm Nov 13, 2007 12:43pm
I think different traders use different R/R ratios. One thing I do with one of my strategies is open 2 positions at smaller sizes and use a different TP with the first one to the second, this way I can lock in profits. I also move stops to break even when I can too. There are many different ways of doing it, you need to experiment and find what works best for you.
  • #3
  • Nov 13, 2007 1:11pm Nov 13, 2007 1:11pm
Hi renegade7,

No Pros ever calculate their R/Rs.
This is a risk management calculation of the "risk of ruin over time."
e.g. a risk manager may like to know what a certain dealer/traders, risk weightage may be to determine his daylight lines, then a r/r calculated guestimate is compilled from his historical trades.

Why would you want to know what your R/R is anyway?

I believe some ppl have been teaching this kind of crap, to induce traders to formulate stop loss of exposures.

Here's my pro advice to you, if you ever place stop loss orders on your trades , you should not be in the kitchen( market ). Unlike exchange traded instruments FX is done ,interbank and over the counter, at times there is no liquidity due to market uncertainties. At these times, it doesn't really matter where you place stops, a bump spread will take you out of the game.

It is important for you to understand the structure of different markets before you put your fingers into them.

regards
  • #4
  • Nov 13, 2007 1:42pm Nov 13, 2007 1:42pm
Quoting renegade7
Hi there,

I understand how leverage, pip calculations, margin, etc all works although I am still having difficulty grasping how to calculate risk:reward ratio. I know where what my risk is, but does calculating the reward come from using S&R, pivots, etc? How exactly do experienced traders go about doing this - do they just let the trade play out if it's positive and hope for the best? What about retracing and calculating that into the equation? Does this just come from market intuition over time or is there a certain way to do it?

Thanks!
You did the most important part - you determined your risk. Don't go guessing what the reward is going to be just to satisfy some arbitrary fraction, but have a reasonable expectation of sufficient profit to maintian your positive expectancy. Don't risk 50 pips to go long 10 pips below strong resistance. In a trending market don't worry so much about the reward. Placing an expectation on the market will simply assist you in exiting your position for no good reason. Follow your system and get out when your plan tells you to.

And please, don't kid yourself. If you don't use a stoploss you haven't defined your risk.
  • #5
  • Nov 13, 2007 2:23pm Nov 13, 2007 2:23pm
Hi,
"And please, don't kid yourself. If you don't use a stoploss you haven't defined your risk."

@philmcgrew
You seem to be experienced trader.

You see, the problem with geared traders, is that they calculate their ROI in terms of "marked to margin". I highlight this, as alot of traders are doing this and many cons use this to benchmark their performances.

Let me impress upon you , that all pro dealers & traders can only calculate their ROI based on "value at risk", which is the correct way of judging performance. A 10% ROI would look super when used on gearings of 400% wouldn't it? But lets be truthful, what was the "at risk" required?

In term of Stops, I agree that its is a way of controlling negative exposure.
But this can only happen if a position was left unattended to.
All pro market participants, never leave positions open and unattended to.
How long would you leave you babies unattended to?
Unfortunately the FX markets do not sleep.
So if any trader left their positions unattended to , they may as well be gambling.
AND leaving positions for dealers to watch stops, is worst.
Might as well give bank robbers the keys to the vault.

Think if what I say is true?, think carefully.

regards
  • #6
  • Nov 13, 2007 3:01pm Nov 13, 2007 3:01pm
Quoting fti
Hi,
"And please, don't kid yourself. If you don't use a stoploss you haven't defined your risk."

@philmcgrew
You seem to be experienced trader.

You see, the problem with geared traders, is that they calculate their ROI in terms of "marked to margin". I highlight this, as alot of traders are doing this and many cons use this to benchmark their performances.

Let me impress upon you , that all pro dealers & traders can only calculate their ROI based on "value at risk", which is the correct way of judging performance. A 10% ROI would look super when used on gearings of 400% wouldn't it? But lets be truthful, what was the "at risk" required?

In term of Stops, I agree that its is a way of controlling negative exposure.
But this can only happen if a position was left unattended to.
All pro market participants, never leave positions open and unattended to.
How long would you leave you babies unattended to?
Unfortunately the FX markets do not sleep.
So if any trader left their positions unattended to , they may as well be gambling.
AND leaving positions for dealers to watch stops, is worst.
Might as well give bank robbers the keys to the vault.

Think if what I say is true?, think carefully.

regards
I get what you are saying. I worked on a trading floor for a couple years and we had risk managers and quants and monthly drawdown limitations and we knew what our individual and group VAR was at all times. I also understand that you were or are a pro trader as you pointed out in your first four posts and I'm happy for you. In the retail world where the rest of us live we rarely get choice or fractional pip spreads and we do sit on trades sometimes for hours, days, and weeks on end and at some point we fall asleep and protect our positions with stops. We don't go home at the end of the day beacause we are already there. I completely agree that no one here discusses how much of their account they risk to get the gains that they realize and that is unfortunate. Trust me, that is rarely discussed. Most of the time we can't even agree on how to count pips for multiple trades let alone trading terminology.

In my experience, it is quite rare for someone to have a mental stop and then faithfully execute that order when the time comes. This is the computer age. Let the computer execute trading decisions that you have made. Sitting in front of the computer is usually not conducive to disciplined trading.
  • #7
  • Nov 13, 2007 3:17pm Nov 13, 2007 3:17pm
Quoting renegade7
Hi there,

I understand how leverage, pip calculations, margin, etc all works although I am still having difficulty grasping how to calculate risk:reward ratio. I know where what my risk is, but does calculating the reward come from using S&R, pivots, etc? How exactly do experienced traders go about doing this - do they just let the trade play out if it's positive and hope for the best? What about retracing and calculating that into the equation? Does this just come from market intuition over time or is there a certain way to do it?

Thanks!
You can't know this until the trade is over. Only then will you know what reward you got.

But, knowing the R/R ratio of a single trade is meaningless. What does have meaning (and philmcgrew correctly mentioned this) is what your R/R ratio is over a long series of trades. You can find this by taking the average of all the individual trades making up the series. What you have then is the R/R for the method you are trading. The R/R ratio of the method is, as phil mentioned, an important part of determining if your method has positive expectancy. Without PE, you have no chance of winning in the long run.

Also, do as phil suggested, and don't try to guess what the R/R will be for a single trade just for the purpose of setting a take profit target. Use a technical based trailing stop instead to allow the trade to run.

Finally, while fti made some valid points about setting or not setting a hard stop, the decision in the end is up to the individual trader. My opinion on this it that traders should always set a hard stop, because the market can do anything at any time. I always set a stop. Always.

Dial
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  • #8
  • Nov 13, 2007 4:13pm Nov 13, 2007 4:13pm
If one was to leave a trade open for over a day (factoring in swap, etc), then should a trailed stop be brought up on a 1:1 basis for how much profit has been generated if the trade is in the green? How would you go about calculating how much to trail the stop? Also, what about calculating retracements for stop trailing? Is knowing approx how much something is going to retrace a skill that comes with experience, or again something that is somewhat random and always approximated?

To add, what about stop hunting? I know I would always be faithful to stops as I've done a lot of other things were a loss is just a part of the gain, but I'm really worried about stop hunting with MM's...eventually I want to trade ECN but not until my capital is high enough that I can support such high spreads as an added risk.
  • #9
  • Nov 13, 2007 8:32pm Nov 13, 2007 8:32pm
Quoting renegade7
If one was to leave a trade open for over a day (factoring in swap, etc), then should a trailed stop be brought up on a 1:1 basis for how much profit has been generated if the trade is in the green? How would you go about calculating how much to trail the stop? Also, what about calculating retracements for stop trailing? Is knowing approx how much something is going to retrace a skill that comes with experience, or again something that is somewhat random and always approximated?

To add, what about stop hunting? I know I would always be faithful to stops as I've done a lot of other things were a loss is just a part of the gain, but I'm really worried about stop hunting with MM's...eventually I want to trade ECN but not until my capital is high enough that I can support such high spreads as an added risk.
There are two ways I trail stops, depending on which method I'm using. The first is utilizing my broker's (fxsol) trailing stop feature to step the stop up every time price moves up 10 pips. For the method I use this on, I consider anything less than 1 ATR (daily) to be noise, so I usually set my stop somewhere between 1.5 and 2.0 ATR (daily) and trail from there.

The second way I trail stops is illustrated quite nicely in post #8 of this thread: http://www.forexfactory.com/showthread.php?t=46048

I use this method when I'm basing my entry on daily price action. Once in the trade, I drop down to the 1 hour chart to get more resolution of price movement and then trail using the method in the thread mentioned above.

I don't worry about stop hunting. I do get hit with a spike occasionally, but much, much less frequently than many traders because I trade longer term. I don't muck around in the noise of shorter time frames. I'll use 1 hour as mentioned above to trail with, but I don't trade 1 hour or shorter.
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  • #10
  • Nov 14, 2007 10:33am Nov 14, 2007 10:33am
Right - that makes sense for trailing. What if you leave your trades overnight and it retraces and then shoots upwards again though, wouldn't it hit your stop? I read something last night in the turtle rules about how they would take a 100% loss of gained profit in order to stand by their system. I wasn't sure whether that meant keep the original stops and come back to their trade at a certain time period later (considering they were doing futures, etc) and then trail by 1/2 R, or to trail 1/2 R everytime it moved 1/2 R. Esentially, when you enter a trade the risk is a given value based on indicators, etc, but how do you trail when retracements are a common occurance in the shorter timeframes when you're not watching those charts every minute/hour/etc. Larger gaps?

Regarding stop hunting, that makes sense. They can only spike the market in smaller time frames for scalpers and when the pip range is small ..is that correct?
  • #11
  • Last Post: Mar 23, 2008 4:57pm Mar 23, 2008 4:57pm
Quoting fti
Hi,
"And please, don't kid yourself. If you don't use a stoploss you haven't defined your risk."

@philmcgrew
You seem to be experienced trader.

You see, the problem with geared traders, is that they calculate their ROI in terms of "marked to margin". I highlight this, as alot of traders are doing this and many cons use this to benchmark their performances.

Let me impress upon you , that all pro dealers & traders can only calculate their ROI based on "value at risk", which is the correct way of judging performance. A 10% ROI would look super when used on gearings of 400% wouldn't it? But lets be truthful, what was the "at risk" required?

In term of Stops, I agree that its is a way of controlling negative exposure.
But this can only happen if a position was left unattended to.
All pro market participants, never leave positions open and unattended to.
How long would you leave you babies unattended to?
Unfortunately the FX markets do not sleep.
So if any trader left their positions unattended to , they may as well be gambling.
AND leaving positions for dealers to watch stops, is worst.
Might as well give bank robbers the keys to the vault.

Think if what I say is true?, think carefully.

regards
I am going around reading your teachings. This is so funny. Stop losses? That is for lazy people or indoctrinated one from terrible books. It is real funny..I image a trader walking out and leaving its children to be stolen by the bank...that is a stop loss. What is the role of the index finger but to exit or entry when the trader chose to?

But that is not easy to accept to those who do not take full responsiblity of their trading decision. Why to ask the computer to exit when you can do it yourself? Because then you have somebody else, the computer, to blame when you see the quick turn on the market while you are out. That is why. Pure psychology.
Empty as water and soft as a facing wind mountain
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