Risk of Ruin
Also known as: ruin probability, RoR, probability of bust
Risk of ruin is the mathematically calculated probability that a trading account will lose enough to be unrecoverable, given the strategy's win rate, average win and loss size, and position sizing.
Risk of ruin is the single most sobering number in trading and the one almost nobody calculates. It is a function of three inputs: how often the strategy wins, the ratio of average winner to average loser, and how much of the account is risked per trade. Plug in plausible numbers and most traders find their sizing is far too aggressive for their actual edge.
The intuition is uncomfortable. A strategy with a fifty percent win rate and a one-to-one risk-reward ratio that risks five percent per trade has a long-run probability of ruin near one hundred percent; every account running it long enough goes to zero. Cutting the per-trade risk to one percent drops the ruin probability to a fraction of a percent. Nothing about the strategy changed except the sizing.
The practical version is: pick the maximum drawdown that is survivable emotionally and financially, then size every trade so the long-run ruin probability at that drawdown is acceptably small.
Function of empirical win rate, average win-to-loss ratio, and per-trade risk percentage; assumed independent trials.
Surfaces on the diagnosis as a calculated probability tied to current sizing behavior.
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