A while back I did a two-week trial with a Trader I found in one of our free Webinars and one of my observations is that it appeared no one in this trading room had any idea of the odds of success for the Profit Targets and Stop Losses that were being used. **You need to know this!**

Let’s say you trade with two futures contracts (it doesn’t matter if it’s futures or stocks). Your plan is to take quick profits on the first contract to try a cover your stop on the second contract. For example: you go long at some price where the tick value = $5. Your stop is 11 ticks, your first target is 5 ticks and your second target is 30 ticks. How often do you have to be “right” to make money over the long term?

First, the formula:

%Wins_to_BE = (Stop + Slippage + Commission) / (Stop + Profit Target)

Where:

- BE = Breakeven
- Stop = Your initial stop loss in ticks, points or $/contract or share (the unit doesn’t matter provided you use the same unit for all parameters)
- Slippage = How much slippage you anticipate (same units as Stop)
- Commission = Total commission for in and out
- Profit Target = How many ticks, points, etc for your planned exit
^{1}

Now for our trade. We really have two separate trades here. The first has a stop of $55 with a profit target of $25. Let’s use 0.0 slippage and a round-trip commission of 1 tick or $5.

- %Wins_to_BE = (Stop + Slippage + Commission) / (Stop + Profit Target)
- %Wins_to_BE = (55 + 0 + 5) / (55 + 25)
- %Wins_to_BE = 60 / 80 = 75%

You must hit your first target 75% of the time **just to Breakeven…**without slippage**! **Add just 2 ticks slippage and it’s **87.5%** to breakeven.

And the second half of our trade:

- %Wins_to_BE = (Stop + Slippage + Commission) / (Stop + Profit Target)
- %Wins_to_BE = (55 + 0 + 5) / (55 + 150)
- %Wins_to_BE = 60 / 205 = 29.3%

On this half of the trade winning 30% of the time gets you to Breakeven. Now these are much better odds…providing you can hold to your profit target and not bail out early. If you bail out with 20 ticks profit instead of 30 now the number is 39% winners to breakeven, still not too bad.

In both cases, to actually make money you must win even more often. A modified formula will tell you that number as follows:

%Wins_to_Profit = (Stop + Slippage + Commission) / (Stop + Profit Target – Net_Profit_every_Trade)

Where: Net_Profit_every_Trade = average profit per trade for all trades taken.

Let’s say if you took 10 trades, you want to make 200 ticks net profit. That’s 200 / 10 trades = 20 ticks average profit per trade.

Putting that in our modified formula for the second half of the trade gets:

- %Wins_to_Profit = (Stop + Slippage + Commission) / (Stop + Profit Target – Net_Profit_every_Trade)
- %Wins_to_Profit = (55 + 0 + 5) / (55 + 150 – 100)
**%Wins_to_Profit = 60 / 105 = 57.1%**

So the first part of our system gets to breakeven **if** we’re really good as you need to win nearly 90% of the time with slippage considered. The second half of our system could win us our 200 ticks ($100) per 10 trades if we make our profit target 60% of the time or more. Add 4 ticks slippage and it becomes 76% wins needed to reach our goal.

The idea of using a quick target to cover your stop might make you feel good when you are right, but in the end it’s doing nothing for your bottom line because you have to be right on that first target on 9 of 10 trades to breakeven. You’d have to be right 100% of the time to actually make money on that first contract. Do two contracts you say? The math is **exactly** the same because everything in our formula doubles — 2x the loss, 2x the profit, 2x the commission, 2x the slippage. The result is the same answer.

**Bottom line**: My point is simply to make you aware of the necessary win:loss ratio to become a winning trader. Many people try to scalp, but as you can see from the above examples, your winning percentage to make money doing that has to be very high. Run your own numbers with your trading system and see what you get. Hopefully you are pleasantly surprised instead of being shocked. Note my example has a win:loss ratio of 2.7:1. In lieu of running the numbers you should always try for 3:1 or better win:loss ratio. 5:1 is a good goal to compensate for those cases where you have to bail out early. If you can’t see a 5:1 ratio of profit target to stop loss — **don’t take the trade**.

*Math notes:*

*Trading larger time frames where the stops and profit targets are much larger makes slippage and commission become less significant.*
*You can change the ratio of profit to stop loss and make the math better, but the tighter stops and the larger profit target reduces your winning percentage.*