What is the Risk/Reward Ratio Metric?
Let’s start with the basics. The Risk/Reward Ratio measures how much profit a service generates compared to its maximum drawdown.
It measures the relationship between your total profits and your maximum drawdown.
It answers every investor who silently asks: "How much return am I getting for the risk I'm taking with this service?"
This is a crucial indicator of whether a service is taking on disproportionate risk compared to the rewards it achieves.
Why should investors care about this Metric?
Investors use the Risk/Reward Ratio as a universal language to compare services with entirely different strategies. Here's why they care so much about it:
A consistent benchmark: The RR metric acts as a universal comparison tool because every trading approach can differ drastically—some might target significant gains with higher volatility, while others focus on steady growth. For example, an investor is looking at two services:
Service A: 80% return with a 40% drawdown; Risk/Reward Ratio = 80 ÷ 40 = 2
Service B: 40% return with a 10% drawdown; Risk/Reward Ratio = 40 ÷ 10 = 4
In this example, Service B has a Risk/Reward Ratio twice as high as Service A, despite having only half the returns. This shows why investors can use the Ratio to identify a strategy’s relative risk and reward potential rather than focusing on returns alone:
Quality matters more than quantity: Smart investors don't just chase high returns; they want efficient returns. A higher Risk/Reward Ratio shows the wealth manager is not just making money but making it wisely
It shows sustainability: Services with higher RR scores typically perform more consistently across different market conditions—precisely what long-term investors seek.
It demonstrates professionalism: A strong RR ratio tells investors the wealth manager knows what he is doing when managing risk, instantly setting him apart from the competition.
Why should wealth managers care about improving this metric?
For traders, the RR metric isn’t just a number—it’s a way to stand out. A high RR score makes the service more attractive to investors, which means more AUM. But here’s the thing: Improving the RR score isn’t about making huge profits or eliminating drawdowns. It’s about optimizing the relationship between the two.
Focus on the Ratio, Not Just the Numbers: The RR metric isn’t about maximizing profits or minimizing drawdowns. It’s about the relationship between the two.
Effective Risk Management: While strategies inevitably experience drawdowns, limiting how severe those drawdowns become is crucial. Minimizing significant dips in balance helps maintain a favorable ratio—even if profits are modest—because the gap between peak and trough remains contained.
Control Unrealized PnL in Futures Through Hedging: One approach for wealth managers who use futures is to deploy hedging techniques. This can reduce the volatility of unrealized PnL and lower the overall risk profile. By stabilizing unrealized losses, the service becomes less susceptible to steep drawdowns during market swings, which can, in turn, keep the RR metric looking healthier.
Keep a Portion of Funds in Standby: Zignaly’s Standby Funds account is where all deposits and withdrawals pass through; It reduces the overall volatility of the strategy since a portion of the capital remains isolated from market fluctuations. By not having 100% of funds exposed to market movements at all times, the maximum drawdown is naturally limited, which improves the RR metric even if the absolute returns remain the same.
The benefit of improving this ratio:
Increased Visibility: Services with higher Z-Scores, driven by a strong Risk/Reward Ratio (RR), gain greater prominence in the marketplace. This puts them in front of more potential investors, increasing their chances of attracting new capital.
More Stable AUM: A higher RR doesn’t just draw in more investors—it attracts patient capital. Investors are more likely to stay committed to services that demonstrate a healthy balance between risk and reward, leading to more stable and long-term assets under management (AUM).
Enhanced Credibility: A high RR signals investors that a service is profitable and excels at managing risk. This builds trust and credibility, making the service appealing to cautious and experienced investors.
Competitive Edge: A strong RR sets a service apart in a crowded marketplace. It shows that the wealth manager has mastered balancing risk and reward, giving them a clear advantage over services with lower RR scores.
Why This Metric is a Win-Win?
The RR metric is a win-win for everyone.
For investors, it’s a tool to find services that match their risk tolerance and goals.
For traders, it’s a way to show that their service is profitable and risk-efficient. By improving their RR score, they are not just boosting the Z-Score—they’re sending a clear message to investors: This service knows how to balance risk and reward.
How is it scored?
Read more here: Z-Score Metrics.
To conclude:
Improving the Risk/Reward Ratio within the Z-Score involves finding the sweet spot between generating profit and controlling the depth of drawdowns. Maintaining this balance over time makes the service more likely to achieve a higher ratio.
Remember, the goal isn’t to eliminate risk but to improve the relationship between the profits generated and the risk assumed. By doing so, you’ll improve your RR and demonstrate your service’s ability to deliver consistent, risk-efficient performance.