What Is Risk of Ruin in Trading?

Risk of ruin is the probability that your losses reach a level you cannot recover from, or cannot accept, before your edge has time to work. The word ruin sounds dramatic, but the idea is practical: it is the chance that a bad enough run ends your trading, whatever your strategy would have earned had you survived it.

Three things decide it. The first is your edge: win rate and payoff together. A strategy with a clear edge has a lower risk of ruin than one without. The second is the number of trades, because the longer you trade, the more chances a bad run has to appear. The third, and the one that dominates, is how much you risk per trade.

The effect of that third factor is large. Take a strategy that wins 45% of the time and earns 1.5 times its risk on a win. Played for 200 trades with a ruin level of a 50% drawdown, risking 1% per trade gives essentially no chance of ruin. Risking 2% gives a chance of about 0.2%. Risking 4% gives a chance of about 8%. The strategy did not change, and the odds of being wiped out moved by orders of magnitude.

That is why experienced traders treat sizing as the first decision, not the last. A strategy can have a real edge and still fail because it is traded at a size that a normal losing streak can destroy. Streaks of losses are normal, as the losing streak probability calculator shows, so a size that cannot survive an ordinary one is too large.

No calculation tells you what your true win rate and payoff are, since you only have estimates from your own history. That is a reason to be careful with the inputs and to leave a margin. Use the calculator to compare sizes, and use the analyzer to check whether you actually trade at the size you intend.