Level 3 · Lesson 3 / 4 · English
Stop-loss, take-profit and reward-to-risk
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A stop and a target describe conditional exit intentions. They do not guarantee an execution price or a profitable strategy. First identify what would invalidate the idea, then calculate how distance, volume and costs affect the proposed loss and reward.
What you will learn
- Explain stop-loss, take-profit and reward-to-risk.
- Work through the stated hypothetical example with explicit units.
- Recognise limitations and apply a documented practice check.
Place exits around an explicit invalidation
For a hypothetical long position entered at 1.1000, a stop trigger at 1.0950 is 50 conventional EUR/USD pips below entry. A target at 1.1100 is 100 pips above. The distances alone create a gross reward-to-risk ratio of 100 divided by 50, or 2:1. Direction matters: a short position’s adverse move is upward.
An invalidation level should follow the stated setup, not be moved merely to display a prettier ratio. A stop that is closer may lower the initial money estimate but be easier to trigger during ordinary variation. Consider volatility, executable bid/ask prices and order rules before translating chart levels into instructions.
Ratios do not replace probabilities or execution
A 2:1 gross ratio does not mean a strategy will win two dollars for every dollar lost. Targets may never be reached, stops may slip, and partial exits change realised results. If the idealised outcomes are +2R and −1R, the before-cost break-even win rate is one third, derived from 2p − (1 − p) = 0.
With costs, a 2:1 gross plan has a lower net reward-to-risk ratio and a higher break-even win rate. Use realised net outcomes when reviewing results. A high theoretical ratio with a very low success rate can have negative expectancy. Keep the stop plan separate from the temptation to widen it after entry.
Key terms
- Invalidation
- A condition that makes the original trade idea no longer applicable.
- R-multiple
- An outcome expressed relative to an explicitly defined initial risk amount.
- Reward-to-risk
- Planned reward divided by planned risk under stated assumptions.
Hypothetical worked example · Not live market prices
A hypothetical long EUR/USD plan
- Entry 1.1000, stop trigger 1.0950 and target 1.1100.
- Risk distance is 0.0050 ÷ 0.0001 = 50 pips.
- Reward distance is 0.0100 ÷ 0.0001 = 100 pips; gross ratio is 2:1.
| Item | Distance | Pips |
|---|---|---|
| Stop | 1.1000 − 1.0950 | 50 |
| Target | 1.1100 − 1.1000 | 100 |
| Gross ratio | 100 ÷ 50 | 2:1 |
Simplified educational calculations. Costs, slippage and provider-specific adjustments apply where relevant; these are not actual returns.
Common mistakes to avoid
- Moving an invalidation level solely to advertise a large ratio; preserve the actual hypothesis.
- Confusing trigger and fill prices; actual execution can differ.
- Treating 2:1 as a guaranteed return; probabilities and costs matter.
Lesson summary
Calculate signed distances and gross ratios, then account for execution and costs. A target is a conditional plan, not a promised outcome.
Practical exercise
Write a hypothetical short EUR/USD plan with entry 1.2000, stop 1.2030 and target 1.1940. Verify 30 adverse pips, 60 favourable pips and 2:1 gross reward-to-risk. State why the realised ratio could differ.
Knowledge check
Check your understanding
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Answer all questions correctly and complete the exercise. Progress follows you between Academy pages for this visit only; it is not saved to an account and resets on reload.
Related lessons
Financial education, not personal investment advice. Leveraged Forex and CFDs can lead to substantial losses. Demo practice and correct quiz answers do not guarantee trading success.