Risk-Reward Ratio Versus Win Rate: The Break-Even Math
Why a strategy with a high percentage of winners can still lose money after costs, and a lower win rate can sometimes work.
Assume a simplified strategy risks one unit to make two units and has no fees. At a one-to-two loss-to-profit ratio, the break-even win rate is one win in three trades because a win offsets two losses. If winning trades are cut short or losing trades exceed the intended stop, the real required win rate changes.
Consider a second hypothetical approach that wins eight out of ten trades but earns a quarter of a unit per win while losing three units on each loss. Its gross result is negative despite an 80% win rate. Average win, average loss, frequency and position sizing are all necessary to understand expectancy.
Transaction costs, correlated losses and execution errors can erode either strategy. Backtest results may overfit past data, especially when parameters were chosen after inspecting the outcome. This is arithmetic education, not evidence that a particular trading setup achieves a stated win rate.
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