What's the Risk/Reward of a forex trading strategy?
The Risk/Reward ratio is usually used to determine if any opportunity (trade) it woth to try. At least a ratio needs to be 1/2.
How to apply this to the whole forex trading strategy that you would follow or simply to gauge how risky it is?
Let's call this new ratio Global Risk/Reward = Draw down/Gains
- This ratio needs to be the closest from 0.
- Above 1, the strategy is profitable but the gains are low to compare with the risk taken.
- Below 0, the strategy is not profitable at all.
Case1: Gains: 45% - Draw down (DD): 17%; Global Risk/Reward = 0,37 => Profitable and low risk
Case2: Gains: 38% - Draw down (DD): 63%; Global Risk/Reward = 1,66 => Profitable but risky
Case3: Gains: -19% - Draw down (DD): 5%; Global Risk/Reward = -0,26 => Not Profitable
Gains or Growth: Return of the investment as percentage of the total deposits.
Draw down: It's the measure of the decline from a historical peak in some variable (typically the cumulative profit or total open equity of a financial trading strategy).
Equity: the capital's account trading more or less the total of current trades.