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Loss Aversion

How to Improve your Trading Strategy using R Multiples | Van Tharp

Measuring in R Multiples just makes sense. Let’s look at a couple of alternatives to investigate this bold statement further.

Pips

Let’s say you enter 1 lot on EURUSD, and you make 100 pips. Is that good or bad? How do you know? If you risked, say 500 pips, it’s maybe not so good. Remember, pips are only a unit of measure. So they don’t really tell us much about the trade, only that it moved 100 pips in profit.

Percentage

What about if you entered 1 lot on GBPUSD and it made 2%. Again, profit is nice, but at what risk did you make that 2%. If the SL was 10% and you have a 50% win rate, it won’t be long before the account is empty and you’re left scratching your head.

These basic concepts are missing an essential piece of information, risk. When looking at any trade or trading strategy, you need to consider the risk. Only looking at the returns side of the equation is not enough.

This is where R Multiples comes in.

If you use R Multiples, you can gain further insight into a trades success with the risk you took to get there.

Using the two examples above. A 100 pip trade using 1 lot on EURUSD with a 500 pip SL is only 0.2R. In comparison, that same 100 pip trade is 1R using a 100 pip SL. The return is the same in pips but very different in R Multiples.

Another consideration is that in the pips example, the risk would equate to $5,000 ($10 per lot * 500 pips). In contrast, the risk with a 100 pip SL is $1,000.

If the trade made 2% with an SL set at 10% in the percentage example, the corresponding R is again 0.2R. If you set the SL at 2%, the corresponding R is 1R. Using R Multiples, you can accurately gauge the risk to achieve a potential return.

The risk of these two percentage example trades would be dependant on your account size, but either way, the risk is five times greater using the 10% SL than the 2% SL. But why is this important?

And why R Multiples?

Using R Multiples, you can set the lot size of your trade and level the risk across all trades. This allows you to compare two different strategies. It is fair to assume that a strategy that allows more risk could expect to have increased returns. This increased risk doesn’t mean that the more risky strategy is the better one to choose.

The take-home point of this post is that you need to find a way of levelling the playing field when comparing two very different trading strategies. Van Tharp’s R Multiples combined with Van Tharp’s Expectancy achieves this.

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Content Disclaimer: The contents of this video (and all other videos by the presenter) are for educational purposes only, and are not to be construed as financial and/or investment advice.