how to decide risk and reward in trading?

 To decide risk and reward in trading, you must predefine your entry price, stop-loss (risk), and profit target (reward) before entering a position. This calculation, known as the Risk-Reward Ratio (RRR), allows you to determine objectively if a trade is worth taking based on the potential upside versus the potential downside

1. Calculate the Risk-Reward Ratio 

The RRR is calculated by dividing your potential loss by your potential profit:

• Formula: RRR = (Entry Price - Stop-Loss) / (Target Price - Entry Price).
• Example: If you buy a stock at ₹500, set a stop-loss at ₹480 (₹20 risk), and a target at ₹560 (₹60 reward), your ratio is 1:3. For every ₹1 you risk, you stand to gain ₹3. 

2. Common RRR Benchmarks for 2026

While no single "perfect" ratio exists, traders typically use these guidelines to maintain long-term profitability:

• 1:2 Ratio: The most common industry standard; it allows you to be profitable even with a 33% win rate.
• 1:3 Ratio: Preferred by professionals for high-quality setups; it requires only a 25% win rate to break even.
• 1:1 Ratio: Generally considered "gambling" unless you have a very high win rate (over 60-65%).

3. Setting Technical Exit Points

Avoid choosing random numbers for your exits; instead, use market structure: 

• Stop-Loss Placement: Place your stop-loss just below support levels (for long trades) or above resistance levels (for shorts). If the price hits this level, your trade idea is technically invalidated.
• Profit Target Placement: Set targets at logical resistance zones or previous swing highs where the price is likely to stall or reverse.
• Volatility Adjustment: Use the Average True Range (ATR) indicator to set wider stops during high volatility, preventing you from being stopped out by normal market noise.

4. Essential Risk Management Rules

• The 1% Rule: Never risk more than 1% to 2% of your total account capital on a single trade.
• Predefined Exits: Use Stop-Loss Orders and Limit Orders to automate your exit plan and remove emotional bias.
• Trailing Stops: In 2026, many traders use Trailing Stops to lock in profits as a trade moves in their favor while still allowing for further upside.
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