SteadyOptions is an options trading forum where you can find solutions from top options traders. TRY IT FREE!

We’ve all been there… researching options strategies and unable to find the answers we’re looking for. SteadyOptions has your solution.

# Risk Reward Or Probability Of Success?

How many times did you hear the following claims:

• "Our system has 90% success ratio".
• "Our trades have 1 to 4 risk reward".
• “Always keep your reward to risk ratio greater than 1”
• “Only take trades with a minimum of a 2:1 reward to risk ratio”
• “If you aim for more than you risk, then you will make money.”

Lets examine those statements and see how you should put them in context and consider other parameters as well. We will use vertical spread strategy as an example.

Lets take a look at the following trade:

• Sell to open RUT August 1175 call
• Buy to open RUT August 1185 call

This is the risk profile of the trade:

As we can see, we are risking \$822 to make \$177. This is pretty bad risk reward. However, the picture looks a lot better when we look at the probability of success: it is 78%. We need the underlying to stay below 1175 by August expiration, and there is 78% chance that it will happen.

In this trade, bad risk/reward = high probability of success.

Lets take a look at another trade:

• Sell to open RUT August 1100 call
• Buy to open RUT August 1110 call

This is the risk profile of the trade:

As we can see, we are risking only \$185 to make \$815. That's terrific risk/reward (more than 1:4). The only problem is that RUT will have to go below 1110, and there is only 20.7% probability that this will happen. (In fact, to realize the full profit, RUT has to go below 1100 and stay there by expiration).

In this trade, excellent risk/reward = low probability of success.

The following table illustrates the relation between probability of success and risk-reward:

Of course, this is not an exact science, but it helps us to see the approximate relation and trade-off between the risk-reward and the probability of success.

So next time someone will ask you: "Would you risk \$9 to make \$1?" - consider the context. Yes, it is a terrible risk/reward, but considering high probability of success, this is not such a bad trade. It will likely be a winner most of the time - the big question is what you do in those cases it goes against you?

At the same time, the answer to the question "Would you risk \$1 to make \$9?" is also not so obvious. It is an excellent risk/reward, but the probability to actually realize this reward is very low.

In trading, there is always a trade-off. You will have to choose between a good risk-reward and a high probability of success. You cannot have both.

Watch the video:

### What Is SteadyOptions?

Complete Portfolio Approach

Diversified Options Strategies

Exclusive Community Forum

Steady And Consistent Gains

High Quality Education

Risk Management, Portfolio Size

Performance based on real fills

Try It Free

Non-directional Options Strategies

10-15 trade Ideas Per Month

Targets 5-7% Monthly Net Return

### Articles

• #### Holiday Effect in VIX Futures

With fewer trading days and a historical record that favors an uptick in stocks and a downtick in volatility, the end of the year never fails to present an intriguing set of trading opportunities. One phenomenon related to the above is something I have labeled the “holiday effect".

By Bill Luby,

• 19 views
• #### Fatal Flaws in Black-Scholes

Is the Black-Scholes pricing model of options accurate? Or even close to accurate? A very interesting study conducted by Sibson Consulting was cited in an article on the topic (Tim Reason, “The Holes in Black-Scholes,” CFO Magazine, March 1, 2003).

By Michael C. Thomsett,

• 567 views
• #### The Hidden Dangers of Iron Condors

Ever seen those ads about making 5% per month with Iron Condors? It’s certainly possible, but you would have to be a bit naïve to think making a 60% per year return is simple. Most professional money managers cannot achieve those returns, so why would a retail trader be able to achieve it?

By GavinMcMaster,

• 719 views
• #### Assignment and Exercise: The Mental Block

Assignment and Exercise are among the most basic aspects of options trading that every options trader should understand. In this post I painstakingly explain one of the most basic option basics to a reader who is having trouble understanding that concept.

By MarkWolfinger,

• 192 views
• #### 4 Levels of Trading Experience

I would like to share with you another aspect of trading- my fascination with the different levels of trading experience. Starting in one of the latest discussions in the comments section, I shared with one of you that experience in trading comes in stages. I call those the 4 Levels of Trading.

• 841 views
• #### The Spectacular Fall of LJM Preservation and Growth

Investors of LJM Preservation and Growth Fund, a \$772 million alternative mutual fund, got an email on Tuesday February 6, 2018: "LJM strategies have suffered significant losses." The fund (ticker: LJMAX) didn’t report the loss until late the following day, so shareholders were in the dark as to what happened.

By Kim,

• 483 views
• #### 40 Steps In The Trader’s Journey

It is a well known fact that most retails traders/investors lose money in the stock market. There are many explanations for that phenomenon. Trading is a journey, and not everyone is willing to complete it. Many quit too early. Here are 40 steps in the trader’s journey from new trader to rich trader. They are as follows:

By SJosephBurns,

• 1,108 views
• #### 10 Things You Should Know About VIX

The CBOE Volatility Index, known by its ticker symbol VIX, is a popular measure of the stock market's expectation of volatility implied by S&P 500 index options, calculated and published by the Chicago Board Options Exchange (CBOE).VIX is considered by many a "Fear Index".

By Bill Luby,

• 1,774 views
• #### How Does SVXY Work?

There are many more ways to trade volatility today than there was prior to the financial crisis. Numerous ETF’s and ETN’s have been created as a way for traders to hedge volatility risk or gain exposure to it. Some of these are leveraged 2 and 3 times. To say they can be risky would be an understatement.

By GavinMcMaster,

• 2,106 views
• #### 50 of the Top Trading Quotes Ever

While trading quotes can be taken out of context, and it is crucial to have a full understanding of what the trader meant at the time, they can also give traders important insights.  I asked some of my followers for their favorite trading quotes. There were a lot of great suggestions, but here are the top 50 that I’d like to share.

By SJosephBurns,

• 985 views

Report Article

## We want to hear from you!

Trading always comes hand in hand with risk and is directly proportional to success. If don't take risk you will not succeed.

##### Share on other sites

Of course. But it is also important to understand the trade-off between the risk-reward and the probability of success. It is important to understand that when implementing a 90% winning ratio strategy, you sacrifice something - it doesn't come for free.

##### Share on other sites

This sounds like one of those "there isn't a right or wrong answer"... I think by place 90% probabilty trades you will be close to "picking up nickles infront of a steamroller"... on the other hand, if you do the 10% probabiliyt trades, they will be lottery tickets and you will rarely win... I don't think neither of those trades can be profitable unless you tweak that system. In the 90% chance trade, it will be that 10% that will wipe you out...

##### Share on other sites

Absolutely. It all comes to trade management.

There is still a small edge on all those trades (10%, 90% or 50%) due to the fact that in the long term, Implied Volatility tends to be slightly higher than Historical Volatility. But the main edge comes from the trade management.

##### Share on other sites

With the picking up nickels in front of a steamroller analogy doesn't that really only apply with the spread moves completely against you. Can't you avoid the steamroller by putting a stop loss in place? Are there brokers that have a function where you can have the strategy close out if the underlying security hits a dollar amount? You may get your arm clipped but not run over....

I placed an \$AAPL bull put spread where I bough the Aug 15 93 put and sold the Aug 15 94 put. I collected 150\$ premium and rode it out to collect 90% of the premium before closing out the trade. (The only reason I don't hold into expiration is I am trying to avoid after hours trading debacles)

If I had parameters in place to avoid it ever even getting to the 94 mark, wouldn't it make sense to place this trade over and over and over if the probability of success is there?

##### Share on other sites

Most brokers have this functionality. You just set a contingent order to close or adjust based on certain parameters. We do it all the time in our Steady Condors portfolio.

##### Share on other sites

what you have forgotten to explain is that even with a 78 percent win rate you could still get 4 to 5 losing trades in a row so risking 800 to make 200 in your exanple would be a financial disaster should you run into these horrendous losing clusters

##### Share on other sites
1 hour ago, Guest uktrader said:

what you have forgotten to explain is that even with a 78 percent win rate you could still get 4 to 5 losing trades in a row so risking 800 to make 200 in your exanple would be a financial disaster should you run into these horrendous losing clusters

Of course. But this is true with any trade. This is where position sizing and risk management come in place. If you make 10-15% on you winning trades, you cannot afford to lose more than 20-25% on your losing trades.

There are few dimensions to every trade. Risk/reward, probability of success, risk management etc. The point is that you cannot take just one dimension (like 80% winning ratio) and say that this is what makes this trade better than others.

##### Share on other sites

Your content will need to be approved by a moderator

You are commenting as a guest. If you have an account, please sign in.