The stop-loss is determined and only then is the starting line set
Before talking about risk-reward, talk about the stop-loss width
But if there is no basis for that stop-loss width, all of it is just a pie in the sky.
“I’m mindful of the risk-reward ratio” “I’ll aim for at least 1:2” — these are words commonly spoken by traders who have learned money management. Indeed, the risk-reward is important. In the previous article, I explained its importance as well.
But before discussing risk-reward, there is something you must always confirm. It is“whether there is a basis for the stop-loss width”. If the stop-loss width is decided arbitrarily, no matter how noble the claimed risk-reward, it is only theoretical.
Risk-reward is the ratio of stop-loss width to take-profit width. If the foundation—the stop-loss width—is wrong, the ratio itself loses meaning.
The mistake of deciding risk-reward “first”
Many traders determine the stop-loss width by working backward from the risk-reward. For example, “I want a take-profit of 40 pips, so I’ll set the stop-loss to 20 pips.”
This order is reversed.The stop-loss width is not decided for the sake of risk-reward. It is determined by the market structure.
The place where you should place a stop-loss is “the point at which the rationale to enter would be undermined.” If you’re long, below the most recent low; if you’re short, above the most recent high. This position is determined by the market structure. It is not something you may move around for the sake of risk-reward.
A method like “fix the stop-loss at 20 pips because I want a 1:2 ratio” ignores the structure and merely tunes numbers. If a 30-pip stop-loss is truly required, shrinking it to 20 pips will cause you to stumble over stops even though the rationale hasn’t collapsed.