Forex Money Management What is RRR and stop loss

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Forex Money Management: What is RRR and how to set a stop loss

Many traders wait for an ideal moment to open a trade, which is no doubt an important factor. To manage the actual position and to recognize an ideal moment to close it are even more important. How to manage the position? Where to set a stop loss and what does the abbreviation RRR stand for? Read on!

Money management

I find money management to be each trader’s proprietary know-how. A higher level of know-how includes the capability of additional buying or selling of positions. However, we’d better start from the basics, each trader must learn.

As you already know, Forex trading requires discipline. First, you must decide for yourself how big the position you wish to open should be and how to identify it. I recommend that you calculate this against the size of your trading account. Conservative rules suggest that you shouldn’t risk more than 1 to 2 per cent per trade. Our video on money management advised 5%, since binary options trading is in essence much easier. Overall, I recommend that you set the risk at maximum 4% per day (not per trade)

My recommendation for a beginner whose trading account contains 10 000 usd would be no more than 500 usd per trade. The daily limit should be around i.e. 1 000 usd. This means that if you consume the limit, you should not open any more trades. In a situation like this, it’s better to quit, to analyze why this or that has happened (…was it your mistake or a false signal from the market) and carry on trading on the next business day.

Why use money management

Every long-term trader uses some method of money management. The reason is simple: To protect himself or herself against loss. Even a successful and consistently profitable trader experiences a series of losses and must be stopped by a stop loss. In a situation like this, I suggest you quit for the rest of the day and start on the next day with a fresh mind. This is a far better alternative to purging your trading account within a single day.

By the way, having no barrier in place such as stop loss is a frequent mistake made by many beginners unaware of money management, stop loss or RRR who are able to devastate their trading account within a single trade.

What is RRR

The abbreviation RRR stands for Risk-Reward-Ratio. If you set both your position’s stoploss and takeprofit (at the point of opening a trade) with a profit or loss worth 20 pips, your RRR is 1:1. This means that you may either earn or lose one dollar. If your potential profit is twice further than loss, than your take profit your RRR is 1:2.

Remember that Forex allows you a lower success rate than 50% (as you can see above, 1:2). This ratio allows you suffering 19 losses of the total of 30 trades, However, the rest i.e. 11 trades will generate profit. Figure out this using a stop loss of 100 and a take profit of 200: With 19 losses, your overall loss will be 1,900. With 11 gains your total gain will amount to 2,200. In total, you would earn 300.

If you let your losses run without instantly stopping them you may end up like the guy above

RRR and where to place a stop loss

A universal rule says that RRR should not be lower than 1:1, i.e. your stop loss should not be placed below your take profit. Well, I agree – but on the other hand this rule is too general. If the ratio of your proven profit-making Forex strategy is somewhat worse than 1:1 don’t worry and continue trading like before. This rule should not be interpreted so rigidly. A small deviation from the rule will not stop the world going round. The one-to-one ratio is a recommendation allowing for exceptions rather than a rule.

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Placing a stop loss depends on your RRR. This is what must be tested on historical data. Another factor not to ignore is psychology. There are traders whose otherwise profitable strategy is set at a75% loss, a figure others may hardly tolerate.

Final recommendation

If you are keen to learn more about forex/cfd trading and seek for new information read one of our past articles: Seven reasons why traders keep losing money.

Best of luck, dear traders!

Author

More about the author J. Pro

Unlike Stephen (the other author) I have been thinking mainly about online business lately. I wasn’t very successfull with dropshipping on Amazon and other ways of making money online, and I’d only earn a few hundreds of dollars in years. But then binary options caught my attention with it’s simplicity. Now I’m glad it did because it really is worth it. More posts by this author

Forex Money Management: Embracing losses leads to success

What is your idea of a successful trader? Is it the one whose number of profits is bigger than the number of losses? Most people believe that to be seen as a “successful trader” you must turn into profit seven, eight or even nine out of ten trades. Is it the case, indeed? What if the opposite is true? Let’s take a look at what is known as the risk reward ratio, indicating the proportion of profits and losses.

What is the risk reward ratio?

If you open a trade with a stop loss of 20 pips and take profit set also at 20 pips your risk-reward ratio will be 1 to 1. By the way, we have already discussed RRR in our article How to set RRR, SL and TP. If you read the article or know RRR from other resources we recommend you stick to the 1 to 1 ratio. However, is 1 to 1 really a barrier that should not be exceeded?

John Murphy and Michael R. Rosenberg have written a few books about technical analyzing and published results of well-known trading strategies using moving averages, RSI, MACD and others What was their conclusion? The majority of correctly set strategies (set based on the instrument’s volatility) using the ratio of 1 to 1 lead to success in at least 50 percent of all trades.

If we change RRR in our favor toward taking profit i.e. risk of 10 and profit (reward) of 20 pips our success will diminish and we will generate profit in 2 or 3 instead of 5 or 6 out of 10 trades. We must anticipate this and don’t think that by increasing RRR and extending take profit we will automatically generate profit in 50% of trades. Remember: To correctly set the time of closing a trade is equally important as the time of opening it.

RRR of 1 to 1 is, to a large extent, a psychological barrier. It’s because the bigger the take profit vs. stop loss ratio, the less successful the trading strategy.

How to profit from a loss

Paradoxically, a loss might be the driver to a future profit. If your trading strategy is successful at 50% and your RRR is 1 to 1 you need to turn at least half of your trades into profit to reach the break-even point. With RRR of 1 to 2 it is all different. 11 profits (i.e. 19 losses) out of the total of 30 trades are enough to get into black numbers.

You may argue that all we change is stop loss and take profit, affecting RRR (total success rate), but the trading strategy remains the same. You are right, we leave the strategy untouched but significantly influence its results. Try it out, at least on a demo account and some historical data. You will see that a bigger percentage of losses may eventually drive you to profit.

Forex trading, as well as trading other instruments, is, to a large extent, affected by psychology. Most traders simply don’t feel good when losing 19 out of 30 trades. Sometimes even unpleasant experiences are a path to success. Nevertheless, will the success rate change with the change of RRR? How to prevent it?

Further articles focused on money management

Author

More about the author J. Pro

Unlike Stephen (the other author) I have been thinking mainly about online business lately. I wasn’t very successfull with dropshipping on Amazon and other ways of making money online, and I’d only earn a few hundreds of dollars in years. But then binary options caught my attention with it’s simplicity. Now I’m glad it did because it really is worth it. More posts by this author

Tool which shows RRR and Target/Stop Loss in Money

does anyone know if there is a Order-Form or just a kind of a tool or whatever which displays me the Risk Reward Ratio and the Targets and Stop Loss in Money? Like it is displayed in the attached picture.

The problem is I cannot set my lot-size correctly (just 1 % loss from the equity) and my Target (it should be at least 2 %)

Forex Money Management

Learn to control risks in trade. Forex smart money management

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Learn to use Stop Loss effectively

Still unsure whether you need it?

Every day hundreds of Forex traders blame themselves for being so naive and trading without protective stops. Hundreds of others lose funds worth weeks, months & even years of trading just only in one very unsuccessful trade.

And yet another hundreds of traders, having heard dozens of times about importance of protective stops, open new trades ignoring the well known money management rules.

Stop loss isn’t often a favorite tool for many Forex traders as it requires taking necessary losses, calculate risks and foresee price reversals. However, a Stop loss tool in hands of a knowledgeable trader becomes rather a powerful trading weapon than a cause of disappointment and painful losses.

Every trader is free to develop his / her own trading style and implement own money management rules. We will go over several methods of using Stop losses.

1. Simple equity Stop

For example: a trader has $1000 USD account, he places a buy order of 4000 units on EUR/USD, which will give him on average $0.40 cents per 1 pip. Since 2% risk that he is willing take equals $20 USD ($1000 * 2%),
calculations will be next: $20 / $0.40 cents = 50 pips is the limit for this trade.

Learn more about risks and effective money management on our main page:
Forex-money-management.com

2. Chart based Stop

There are several approaches to placing protective stops:
– stops based on swings high / low,
– stops using trend lines,
– Fibonacci related stops, etc.

Let’s take a look at some examples below:

A stop loss based on the last swing low (double-bottom pattern)

A stop loss based on Fibonacci projection A stop loss using a trend line

Chart based stops are widely used in combination with simple equity stops.

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