What is Risk Management? How is Risk Reward Calculated?
First, let’s talk about what risk management is and why it is important. It is really hard to win in the positions you enter in the trades you make in risk management. It is very difficult to win in a market like this. Therefore, you are in an atmosphere where it is easy to lose, and if we consider that your main goal is not to lose money, you should plan your risk management well.
What is Risk Management? Why is it Important?
When you enter a position, you need to calculate the money that will come out of your pocket, that is, the money you will lose. Entering a trade in this way will also increase your confidence as it is a planned trade entry strategy. This is exactly what you call risk management. What is your balance right now, how much will you lose when you lose, and what will your trade balance be at the end of the loss, you need to build these completely within a plan and enter the trades accordingly. We never enter into trades with 100% of our balance. We enter trades with very small amounts of our balance so that I can enter a much larger number of trades in the entire process.
For example, if you have 100 dollars and you enter trades with all 100 dollars and you lose this 100 dollars, you will not have money to enter a new trade. However, if we assume that your loss rate is 1% of your balance, you will be allowed to trade 100 times. Therefore, it is very important to know very well what risk management is and how it is used before entering the trades.
Basic Concepts of Risk Management
First, let’s take a look at the basic concepts to understand what is what. This is how setups are set up on TradingView in risk management. The one on the left is the tool you use when you take a Long position, when you think the price will go up. The one on the right is the tool you use when you take a Short position. you can access these tools from TradingView. This line you see here or the line you see here is the entry point of the trade. As soon as the price touches it, you enter the trade. Of course, we do this not through TradingView but through exchanges like Binance. We’re placing an order on those exchanges by entering the information here.
This line you see is the Entry point. As soon as the price comes here, as I said, it will enter the trade. The Stop point is the line at the bottom. So the price comes to Entry, enters the trade and closes the trade at a loss in case it touches the Stop point. If you have an R, you end the trade with that much loss.
The upper line is the Take Profit part, the part where you take profit after the price comes here and close your position with a profit. As soon as the price comes here, hangs around a little bit and touches here, as soon as it touches Take Profit, your trade will be closed positively and you will earn R, in this example R2.93. Of course, all this also applies to the Short trade. This is the Take Profit part. It will take profit when the price comes here. This is the Entry part. When the price touches this point, this line, when the price has not yet entered the trade, it will enter the trade. The part where you will lose the amount of R that you are willing to risk in case the price goes up is when the price touches this point.
What we call is determining how much we have to lose before how much we have to gain. If you think about how much of your balance you can afford to lose when you enter a trade, you can adjust your risk-taking plan accordingly. Every successful trader manages their risk accordingly. If you want to be a successful trader, you need to have a plan that you need to know, that you need to implement and that we need to go beyond this strategy.
For example, you take a trade like this and in this trade, when the price comes here, when it comes to this part, it will enter the trade. If the price goes down from this point, your trade will be closed at a loss because below is the Stop. But if it goes up and your trade comes to this point, it will be closed in profit. So before a trader enters a trade, he should calculate in advance how much loss he will take out of that position.
Risk Reward Ratio Calculation
If you have 1000 dollars and your R is 10 dollars, which is what we often see on Twitter, Discord or Telegram accounts. Everyone’s R system is different, someone’s R is 1 dollar, so if they stop when the price goes down from here, they will lose 1 dollar. Someone’s R is 10 dollars, someone’s R is 100, someone’s R is 1000 dollars.
Right now in this video, let’s calculate our R system on 10 dollars for a simple system. If we have 1000 dollars and we are risking 10 dollars, it means that we are trading with 1% of our main balance. So we set our trades in such a way that after the price gets here, we lose 10 dollars on a possible fall, so we lose 1R. This is your one R. If your position is stopped out, the amount you lose is 10 dollars. If your position is not stopped out, it comes here, enters and goes to the top, the amount you will get from here is 5*R. So the 5 you see here is the R rate you will earn after you become TP in this position. So if there is a 5*10 TP, you will earn 50 dollars.
What are 1R, Half R and Quarter R?
Some trades are riskier than others. Therefore, you may not want to risk R1. That’s why you may also come across phrases like half R or quarter R. For example, what if you want to enter this position with half R? Half R will be equivalent to 5 dollars in this position. If you want to enter a quarter, the amount you will lose will be 2.5 dollars. If you want to enter half R, it will be 5 dollars. If you enter half R, if the position is TP, the amount you will earn will be half R * 5 according to this position. Therefore, the result you will win here will be 25 dollars if you enter half R. Here is what we can conclude from this. If we trust the trade, we can enter the trade with 1R. If we consider it risky, we can enter with half R or quarter R according to the risk ratio. Of course, the profit of entering with low R will be lower than 1R. When you enter with half R, you will earn half as much if there is TP. Since the trade is risky, you will lose much less if you have a stop. If you consider how safe the trade is, you can move our R ratio closer to 1R. If you think it is too risky, you can lower it to less than one R. I suggest you keep this R system as low as possible to start with. Enter trades for low dollar amounts, if you want to trade for real. As you see your income rates start to increase, you can expand and increase the amount of your one R. Instead of 1 dollar, for example, after a certain period of time you can increase your R to 2 dollars. You need to adapt these types of systems to suit you.
Imagine you are planning to build a position. Before you plan this position, you determine how much your loss is. For example, you have 1000 dollars in your account. You will trade on this 1000 dollars. According to the R system, let your R be, for example, 10 dollars. When you enter the trade from here, if the price comes here, the amount you will lose here will be 10 dollars. Because your one R is 10 dollars. But according to this example, there is a five to one strategy here and if you win, that is, if your price comes here, you have the possibility of making 50 dollars.
Entering Trades with the R System
If we don’t do risk management, if we enter the trade here hoping that it will go up and the price comes here, it will be very difficult for us to exit the trade hoping that it will come back here. But in order to prevent bigger losses, we need to practice risk management. Risk management also relieves us from stress. Since we already know how much we will lose, we will have a peace of mind because we have already set a loss rate that will put us in a difficult situation, especially in the beginning, we will enter the trades in a more stress-free way and we will not be upset or angry when we lose. So risk management is very important.
Build a good position. Let this be the TP point. Once you have an R here, it doesn’t matter if the price comes here. So start looking for different setups, thinking that you are not trading from the right place. Anyway, if you enter the trade in this way, it is wrong. Because the market is down here and it is very risky to trade against the market. You should not trade against the market without being a professional, and if we look at this market, we can see that the trend is a downward trend.
The important thing in risk management is not to get rich in an instant. You have to look for ways to grow your money over time with a system called cumulative, and the best way to do that is through risk management. I say this again and again, but if you are going to enter into a trade, do not enter into a trade without risk management. And enter into a trade with a maximum of one percent of your balance. This way, you will have peace of mind and you will be away from stress.
Stop Point R Ratio
One of the good things about this tool system is this. For example, you set up a position like this. The position is 2.35R. So you will earn 2.35R for 1R you will lose. But as you can see, there is a stop here. You can adjust this stop part in such a way that when you pull it down, the rate you will lose may be 1R again. No matter how wide the lower stop area is, you can enter the trade with the same R rate by entering this current price information into your exchange. Even if we lower it this much, we can fix this R at 10 dollars. Again, we can make our R 10 dollars by entering this updated information. So no matter where the stop point is, the rate you will lose is still 1R. If you put your stop point here, you lose 1R. So you lose 10 dollars. If you put it here, you lose 10 dollars, 1R. This is one of the best parts of risk management.
So you don’t think, I bought it here, the price dropped seven percent. You have nothing to do with percentages here. You have to stick completely to the R system. So the price has gone up by twenty-two percent when it comes here. That should tell you something. The point you will look at is 2.87R. Whatever R you have is the amount you get by multiplying by 2.87, multiplying by the number here. In fact, we need to calculate not how much money we can make, but how much money we can afford to lose. More accurately, we need to calculate how many R’s we can afford to lose.
What Should the Leverage Ratio be in Risk Management?
So what should the amount of leverage be when entering trades? Is leverage really important? If you’re doing this kind of risk management, leverage doesn’t matter. If you enter the information here into exchanges like Binance, these exchanges will already adjust the leverage themselves. The only thing you need to consider here is your R-ratio, how much R you will lose. So there is no need to ask questions like how much leverage should I enter the trade, should I enter the trade with twenty leverage?