simplytrade
simplytrade Dec 08 2020 at 00:45
**** 4 mathematical formulas to prove your system ****

You need to know 4 things about your trading to know if you will make money or not. They are the following;

1) Risk to Reward Ratio
2) Accuracy
3) % Risked Per Trade
4) Risk of Ruin

Simply put, you could be trading a 1:2 risk to reward ratio, and still lose money. You could know #1 along with your accuracy, and still lose money. You could know your % risked per trade and still lose money. But if you know those three + #4, you can mathematically know whether you will make or lose money.

Combined together, "Risk to Reward Ratio" , "Accuracy" and "% Risked Per Trade" will give you your risk of ruin (ROR). The ROR is a number representing the % chance you will ‘ruin’ your account(blow it up). Not a pleasant thought, but a highly useful piece of data and essential for your success.

What you want is a 0% ROR (risk of ruin) or a 0% chance of blowing up your account. The inverse of this is you mathematically will make money.

Ex 1:
Trader A Risking 10% of Account Equity ROR Table
---------------------------------------------------------------
Win Ratio % Risk to Reward Ratio 1:2 (2R Profit)
--------------- -------------------------------------------
Win Ratio 40% 14.2
Win Ratio 45% 3.41
Win Ratio 50% 0.813
Win Ratio 55% 0.187
Win Ratio 60% 0.0401
Win Ratio 65% 0

Looking at the chart above, by risking 10% of your account equity per trade, having a win ratio of 50% and a payoff ratio of 2:1 (2R per trade), you have a .813% chance of ruining your entire account. Although this is a low probability, it is still a possibility. You actually have to be 65% accurate to mathematically ‘know’ you will make money.

Ex 2:
Trader B Risking 5% of Account Equity ROR Table
-------------------------------------------------------------
Win Ratio % Risk to Reward Ratio 1:2 (2R Profit)
--------------- ------------------------------------------
Win Ratio 40% 2.03
Win Ratio 45% 0.116
Win Ratio 50% 0
Win Ratio 55% 0
Win Ratio 60% 0
Win Ratio 65% 0

In this second table, only those with a 40-45% accuracy have a mathematical chance of losing money. But those at 50% accuracy have a zero % chance of losing money, thus mathematically will make money. What is the key difference? The % risked per trade. This is why it is absolutely critical to your money management strategy to use proper money management technique.
This mind trick actually helps to reduce the emotional triggers when trading, thus leaving your cognitive mind less burdened with thoughts of the money, and more focused on the trade.