What Is The Risk To Reward Ratio Of Your Stock Trades?

Provided By Ultimate Trading Systems

You Have To Have A Good Reason For All The Stock Trades You Make

The second thing you must always ask yourself about before you get involved with stock trades is this: What is its risk to reward ratio? In other words, what's the likely return on the stock trades if it goes according to plan, and how much are you likely to lose on your stock trades if it doesn't?

For the stock trades to make sense, its potential reward must outweigh its potential loss - and by as much as possible. Obviously, if stock trades are more likely to fail than succeed, you shouldn’t make the trade. If the stock trades are equally likely to succeed or fail, it's not a trade worth making, either.

If success during your stock trades is only slightly more likely than failure, you're at least on the right side of the risk to reward ratio, but is it really worth it? If there's no good stock trades in sight, just wait.

How do you figure out the potential reward and potential risk? This is something you always need to do, since you shouldn't be getting into stock trades unless you have a plan, and your plan will be based on what you think will happen. You'll anticipate reward based on the strength of the stock trades, the outcome of similar stock trades made on other stock trades for the same reason (the trend), market conditions, and technical and psychological resistance levels you see for the stock trades.

If you want to participate in particular stock trades based on a trend you've observed in four other stock trades (meaning you have a good, compelling reason for the trade), you'll judge the company’s strength (it's a leader in its sector that always has good earnings and tends to run up strongly during market rallies), look up the range of percentage returns those other stock trades gave (between 8% and 22%), market conditions (becoming more bullish), and resistance levels for the stock trades (right now it's trading at 18; it's got technical resistance at around 23, and although a little psychological resistance may appear at 20, it'll be more of an issue at 25 and certainly at 30.)

A 10% rise in the stock trades would bring it to slightly below 20. Since the s stock trades and the market are strong and four other stock trades have given good returns on this strategy, and since the stock has been as high as 23 before, it's reasonable to anticipate that, unless the market turns sour, the s stock trades could see 23 if it goes on a strong run. That would be a return of over 25%. It looks like the potential return on the stock trades is somewhere between 10% and 25%, with a likelihood that the return will be at the higher end.

And what's the potential loss? Let's say you don't think the stock trades are likely to go down past 17, since the chart shows strong support there. If you set your stop just below 17 and it ends up being triggered, your loss will be about 6%. That's somewhat high, but since it looks very unlikely that the stock trades will head down that far, the risk of loss is actually not that high.

So these stock trades give you a probable upside of at least 10% and as much as 25%, with a relatively unlikely downside of 6%. This is a good risk to reward ratio.

If you have a good reason for all stock trades you make, and make only stock trades with risk to reward ratios that are solidly favorable, you maximize your chances for long-term success.

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