Win / Loss Ratios

If you look at some of your past trades, you should be able to easily see which ones were winners and which ones were losers. Count up your winning trades and then count up your losing trades. These two numbers are all you need to determine the win/loss ratio. The win/loss ratio in trading is a measure of the number of winning trades relative to the number of losing trades. It is a ratio, like three-to-one, and is a key metric used by traders to evaluate the overall performance of their trading strategies. You calculate it by dividing the number of wins (profitable trades) by the number of losses (unprofitable trades). The higher the ratio, the better the success rate.

For example, if one of your trading strategies has seen 10 wins and 5 losses, the win/loss ratio would be 2:1. This means you have achieved twice as many successes than failures. The concept of win/loss ratios isn’t specific to trading and be used as a success measure in a number of areas including sales and sports.

A win/loss ratio greater than 1 indicates that the trader has more winning trades than losing trades, suggesting a positive overall outcome. A ratio less than 1 implies more losing trades than winning trades, indicating a negative outcome. Traders often strive for a win/loss ratio above 1 to ensure that the number of profitable trades outweigh the losing ones. However, it’s important to note that the win/loss ratio shouldn’t be considered in isolation. Other factors such as the size of gains and losses, risk-reward ratios, and the total return of the trader’s portfolio are also crucial for evaluating the effectiveness of an options trading strategy. For instance, while a high win/loss ratio is generally favorable, if the amount of capital lost with unprofitable trades is significantly larger the amount of capital gained with profitable trades, the trader may not be profitable overall.

A consideration about win/loss ratios is that certain styles of trading or types of option strategies will have inherently different win/loss ratios. For example, arbitrage style trades or high-frequency trading will usually have far higher win/loss rates than swing or positional trading. However, the former types of trading will often win small amounts and the losses may be substantial. In terms of options, strategies like iron condors will have higher win/loss ratios compared to strategies like long calls but the risk-reward ratio will usually be less favorable. Because of this, a trader should not just understand their personal win/loss ratios but also the average historical win/loss ratios of comparable, benchmark strategies. By understanding the win/loss ratio, a trader can make better decisions when it comes to trading and can identify areas of improvement.

Can you give an example of a win/loss ratio calculation?

Let’s walk through an example of how to calculate the win/loss ratio as well as introduce how this metric is but one component to help plan your trades. Suppose a trader has executed 20 trades with returns as shown in this table. If the return for a trade is greater than 0, then the trade was profitable. If not, the trade was unprofitable. Out of the 20 trades, 12 were profitable and 8 were unprofitable.

Illustration 1

As a reminder, the formula for the Win/Loss Ratio is: Number of Winning Trades / Number of Losing Trades. In our example, there were 12 winning and 8 losing trades so the win loss ratio is 1.5:1 or 1.5. This means that, on average, for every losing trade, there are 1.5 winning trades. In our example, the max gain and loss were 35.5% and -100% respectively. Even though the win/loss ratio was favorable, the average return was -0.9%. So, while a ratio above 1 generally is a favorable outcome, it's essential to consider other factors like the size of gains, losses, and average returns for a more comprehensive assessment of trading performance.

Conclusion

Because understanding the win/loss ratio should be a component of your trading plan, you should know this for existing strategies as well as new strategies. If you are planning to execute a new strategy, you should analyze the historical return patterns of the trade. While historical performance doesn’t equal future results, it can serve as a benchmark. Once you have calculated the historical win/loss ratio, usually through back testing, and are comfortable with the results, you can begin trading. As you trade, you should continually review your strategy’s performance to see in the actual win/loss rates are in alignment with historical values. If the results are substantially difference, you should assess why this is the case and potentially re-think this strategy until you are comfortable with the actual win/loss ratio.