Risk to profit

Any time you make a trade, you are expecting a given trend in the stock price that will turn you a profit. However, there is also risk that the trend goes in the other direction, in which case you will loose money in the given trade.

It is generally recommended that you never risk to lose more than 1% of all your capital in a trade.

Lets use an example, and say you have $1000 in your brokerage account. So for every trade, you should not risk to loose more than $10.

Now let’s say, you want to buy 100 shares of a given stock at $10. In this case, you place your order for 100 shares at $10 and place a stop loss at $9.9.

Basically, if the price goes below 9.9, you would loose 10cents on each share * 100 shares=$10.

Not to be greedy, you could place a Profit taker at $10.2. So, you could take at least $20 cents in profit in this trade. For this given trade, your risk to profit is 1:2. You risk to loose 10 cents but could gain 20.

On 100 shares a gain of 20 cents is $20 dollars, for a temporary investment of $1000, and a risk of $10.

Figure 2.17: Profit taker