Risk of Ruin: The Number Every Trader Should Know

Risk of ruin is the probability that a trader will lose enough capital to be unable to continue trading. For prop firm traders, ruin means hitting the drawdown limit. For personal account traders, ruin means losing enough that the remaining capital cannot support their strategy's position sizing. The classical formula for risk of ruin with fixed bet sizing is: Ruin = ((1 - Edge) / (1 + Edge)) ^ Units Where Edge = (Win% * Avg Win - Loss% * Avg Loss) / Avg Loss, and Units = Account Size / Risk Per Trade. This formula produces precise probabilities for simple cases. A trader with a 55% win rate, 1:1 reward-to-risk ratio, and 5% of capital risked per trade has a risk of ruin of approximately 40%. That number shocks most traders. A strategy that wins more than it loses, with equal wins and losses, still has nearly a coin-flip chance of eventual ruin at 5% risk per trade. The formula reveals the brutal math of drawdown sequences. Even a profitable strategy will experience losing streaks. At 55% win rate, a streak of 6 consecutive losses has about a 0.8% probability on any given sequence of 6 trades. Over 1,000 trades, the probability of experiencing at least one such streak approaches certainty. Six consecutive losses at 5% risk each means a 30% drawdown -- enough to end a prop firm account.

The psychological gap between "my strategy has a 55% win rate" and "my strategy has a 40% chance of blowing my account" is enormous. Traders fixate on expected value (positive) and ignore variance (destructive). Expected value tells you what happens on average over infinite trades. Variance tells you what happens on the path to that average. A strategy can have positive expected value and still produce account-ending drawdowns because the path matters as much as the destination. You cannot compound profits from an account that no longer exists. The second source of underestimation is survivorship bias. The traders you hear about are the ones who survived. The ones who were ruined -- using the exact same strategy, with the exact same edge -- simply had an unlucky sequence of losses that depleted their capital before the strategy's positive expected value could assert itself. This is not a failure of discipline or strategy. It is a failure of position sizing. The third source is the assumption that losing streaks are theoretical. They are not. A 55% win rate means 45% of trades lose. Run 200 trades and you will almost certainly experience a streak of 7-8 consecutive losses somewhere in that sample. The question is not whether the streak will happen -- it is whether your account can survive it when it does.

Risk of ruin is controlled by three variables, and understanding their interaction is more important than any entry signal or indicator: 1. Win rate: The percentage of trades that are profitable. Higher is better, but even 60% win rates carry meaningful ruin risk at aggressive position sizes. 2. Reward-to-risk ratio (R:R): The average winning trade divided by the average losing trade. A 2:1 R:R means your winners are twice the size of your losers. This is the most powerful lever for reducing ruin -- even a 45% win rate with 2:1 R:R produces lower ruin than a 55% win rate with 1:1 R:R. 3. Risk per trade: The percentage of capital (or drawdown buffer) risked on each trade. This is the variable traders have the MOST control over and pay the LEAST attention to. Reducing risk per trade from 5% to 2% can reduce ruin probability from 40% to under 5%, with the same strategy. The interaction between these variables is nonlinear. Small improvements in any one variable produce large reductions in ruin probability -- but the effect is exponential with risk per trade. A trader who moves from 5% risk to 2% risk does not cut their ruin probability by 60%. They might cut it by 90% or more, depending on their win rate and R:R. This is why position sizing is the most important skill in trading. Entry signals get all the attention, but the decision of how much to risk on each trade determines whether the strategy survives long enough for its edge to compound.

Prop firm accounts have fixed ruin thresholds -- the trailing drawdown limit. This makes ruin calculation precise and practical. Scenario 1: Apex $50K account, $2,500 trailing drawdown. Trading MES with 10-point stops ($50 risk per trade). That is 2% of the drawdown per trade. With a 55% win rate and 1.3:1 R:R, the risk of ruin (hitting the drawdown before reaching the profit target) is approximately 25-30%. Manageable. Scenario 2: Same account, but trading ES with 5-point stops ($250 risk per trade). That is 10% of the drawdown per trade. Same win rate and R:R. Risk of ruin jumps to approximately 75-80%. Three consecutive losses and you are effectively done. Scenario 3: Same account, MES, but the trader doubles size after a loss (revenge sizing). The effective risk per trade escalates: $50, then $100, then $200. The ruin probability under this pattern exceeds 90% in our Monte Carlo simulations. The revenge sizing converts a survivable strategy into a near-certain blowup. Monte Carlo simulation adds realism that the analytical formula misses. Real trading has variable win rates (your 55% may be 65% in good regimes and 45% in bad ones), variable R:R (some trades hit target, some hit a partial), and psychological factors (fatigue, revenge trading, FOMO). By running thousands of simulated equity paths, Monte Carlo captures the full distribution of outcomes, including the worst-case scenarios that analytical formulas smooth over.

The actionable takeaway from risk of ruin analysis is a set of concrete rules: Never risk more than 3% of your drawdown buffer on a single trade. At 3%, you can absorb 10+ consecutive losses before ruin. At 5%, you can absorb 6-7. At 10%, you can absorb 3. The difference between 3% and 5% feels small. The difference in survival probability is massive. Your win rate must exceed the breakeven threshold for your R:R. At 1:1 R:R, breakeven is 50%. At 1.5:1, breakeven is 40%. At 2:1, breakeven is 33%. Trading a strategy whose win rate is barely above breakeven at aggressive position size is a slow (or fast) path to ruin. Daily loss limits are ruin prevention. If you cap daily losses at 2-3 trades or 6-8% of your drawdown buffer, you make it mechanically impossible to blow up in a single session. The most common ruin path -- revenge trading after a loss, escalating size into a losing streak -- is prevented by simply stopping. Adaptive sizing based on volatility further reduces ruin. On high-volatility days (rating 7+), wider stops mean more dollars at risk per contract. Reducing contract count on these days keeps the dollar risk constant while accommodating the wider stop. On quiet days (rating 1-3), tighter stops allow slightly larger positions within the same dollar risk budget. Our simulator models all of these variables -- win rate, R:R, risk per trade, daily loss limits, and volatility adaptation -- across thousands of equity paths. The output is a survival probability and a distribution of outcomes. Knowing your ruin probability before you trade is not pessimism. It is the single most important risk management calculation you can perform.