Lessons › Risk and money management › Risk of ruin and your risk rulebook

World 5 · Risk and money management · lesson 15 · level 4

Risk of ruin and your risk rulebook

Bet too big and even a winning method can go broke, so write your risk rules down and follow them.

In one line

Bet too big and even a winning method can go broke, so write your risk rules down and follow them.

Explained simply

Imagine crossing a river on stepping stones: small careful steps get you across, but big jumps mean one slip can send you into the water. Trading risk works the same way. Small bets let you survive the slips, and big bets can end the trip even when you know the way.

The lesson

Risk of ruin is the chance of losing so much that you cannot carry on. In the app's simulation of a method that wins 45% of trades at 2R, risking 1% or 2% per trade almost never cut the account to half its starting balance within 200 trades. Risking 10% per trade did so about 16% of the time, and risking 20% about half the time. A written rulebook with risk per trade, total open risk, loss limits and a leverage cap turns these numbers into habits.

A worked example

Illustrative example: with 10,000 and a 20% risk per trade, three losses in a row leave 5,120 (10,000 times 0.8 times 0.8 times 0.8), and a fourth leaves 4,096 (5,120 times 0.8), below half the start. At 1% risk, 68 losses in a row still leave about 5,049 (10,000 times 0.99 multiplied by itself 68 times), and only the 69th loss takes the balance to about 4,998, just below half. Runs of 4 losses are common, but runs of 69 practically never happen.

The same idea at four levels

1. Beginner. Risk of ruin is the chance of losing so much that you cannot carry on trading.
2. Foundation. The bigger the bet on each trade, the bigger the chance that a normal losing run knocks you out.
3. Intermediate. In the app's simulation of a method winning 45% at 2R, risking 20% per trade cut the account to half within 200 trades about 53% of the time, and risking 1% almost never did.
4. Advanced. A simulation knows its win rate exactly, but real traders never do: at a 35% win rate with 2R wins, risking 20% per trade tends to shrink the account over time even though each trade still averages a small gain.
5. Expert. Experts write a rulebook with risk per trade, maximum open risk, daily and weekly loss limits, a leverage cap and a rule for losing streaks, and they change it only between sessions.

Mistakes to avoid

• Believing a good method cannot go broke if the bets are too big.
• Rewriting the rulebook in the middle of a losing streak.
• Trusting a simulated win rate as if it were certain in real trading.

Goal of this lesson: See how risk per trade drives the chance of ruin, and write a personal risk rulebook.