Asset A has a beta of 1.25, a risk-free rate of 4%, and a projected return of 8%. In that case, the asset A's reward to risk ratio is 3.2%.
Find the risk/reward ratio?
- The risk/reward ratio shows how much money an investor might stand to gain from a given investment for every dollar they risk. Many investors utilize risk/reward ratios to compare the predicted rewards of an investment with the amount of risk necessary to attain those gains.
- The risk/reward ratio supports investors in controlling their potential for trading loss. Even if a trader has a few good transactions, they will eventually lose money if their win percentage is less than 50%.
- As a trade entry point, the risk/reward ratio determines the difference between a buy or take-profit order and a sell or take-loss order. By contrasting these two, it is possible to determine the ratio of reward to risk or profit to loss.
Explanation:
Reward to Risk Ratio is calculated as (Expected Return - Risk-Free Rate) / Beta.
Reward to Risk Ratio is equal to 1.25 x (8% - 4%).
Reward to Risk Ratio: (0.08 – 0.04 / 1.25).
Return on Investment Ratio = 0.032 = 3.2%.
To learn more about Expected Return refer to:
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