What is break-even?
The break-even point in business is the point at which total cost and total revenue are equal, in other words, “even.” To calculate the break-even point in business, you need to divide your total fixed costs by the difference between the unit price and variable costs per unit.
But, in trading, we have a break-even term too.
What Does Break-Even Mean in Forex?
Break-even in forex means that your trading position neither makes nor loses money. So, for example, if you buy EURUSD at a 1.3120 price level and then you a close position at 1.3120 price level with zero profit and zero dollars loss, you are break even.
Usually, breakeven in trading works when you move from your first stop position into your original entry position once the price has moved in your favor.
Break-even example in forex trading:
- You buy EURUSD at 1.3120
- Price goes to 1.32 level.
- You set stop loss at 1.3120 (break-even level).
- If the price falls to 1.3120, you will have zero profit and loss, and you will break even.
The percentage for break-even while trading is a valuable statistic because it shows how often the trader has to win to break even. This will help in decision-making. He will use different stop losses to manage the risk and set targets for the rewards he wishes to achieve. For a break, even the trader does not make money and does not lose money, though he is investing his time. If the number of trades won is higher than the break-even percentage, the trader makes a profit. If the percentage of trades won is lower than the break-even calculated, the trader is losing money.
Break-even percentage calculation
To calculate break-even percentage in forex trading, you need to divide stop loss and stop loss and target price sum like in the following formula:
Breakeven= (Stop-loss/(Target + Stop-loss)) X 100
For calculating the break-even percentage for a particular trading strategy, the settings for stop-loss and target defined by the trader are considered. Different parameters are used for measuring the target, stop-loss, like ticks for futures trading, cents for stocks, and pips for forex trading. In other cases, the amount of money is used for specifying stop loss and target profit. The calculation shows the number of winning trades for break-even in percentage terms.
Many traders do not use the same target or same stop-loss for each trade. In these cases, the average profit or win and average loss for the different trades are considered for calculations. Thus, the average stop-loss is the average loss, while the average profit becomes the average target. The estimate for the break-even percentage is provided below.
What does break even mean in options?
In options trading, the break-even price can be Call Breakeven or Put Breakeven as the price at which investors can choose to exercise or dispose of the contract without incurring a loss. In the case when a trader buys an option, call position you own can be profitable at expiration, If remains above the strike price plus your initial investment:
Call Breakeven = Call Strike Price + Call Purchase Premium
In the case when a trader sells an option, “Put position,” you can be profitable at expiration if it remains below the strike price minus your initial investment:
Put Breakeven = Put Strike Price – Put Purchase Premium
Break-even options trading example:
For example, if you have a call option with a strike price of $40 and your cost per option share is $1.50. Adding $1.50 to $40 tells you that your breakeven price is $41.50.
For example, if you have a put option with a strike price of $40 and your cost per option share is $1.50. Then, subtracting $1.50 to $40 tell you your breakeven price is $38.50.
Application of the break-even percentage
The break-even percentage determines whether the trading strategy formulated will provide sufficient winning trades. The trader is making a profit, using different settings for stop-loss and targets. It will help if the trader is using a new trading strategy; it will help determine the number of trades required to profit when the stop-loss and target settings are optimized. The trader winning a more significant percentage of trades than the break-even will profit, while a trader losing a more substantial number of trades compared to break-even will make a loss.
The win rate and risk/reward ratio are calculations related to the trade. The risk/reward compares the risk for each trade with the reward targetted. The win rate calculates the number of trades that the trader is winning, expressed in percentage terms. These calculations and statistics can complement the trader’s break-even calculation to decide and formulate the right strategy.
Setting the right target.
Traders should be aware that setting targets that cannot really produce break-even percentages is misleading because they are not realistic. A trader may feel tempted to set the target significantly higher than the stop-loss, thinking that he will require only a few winning trades to break even under these conditions. Yet, the trader is not aware of the reality of achieving difficult targets. If the target is extremely high, the trader will never achieve it since the prices or value of the security will not increase to a very great extent in most cases. In other cases, there will only be very few winning trades for high targets, so the trader will lose money since the percentage of losing trades will be more.
So while developing a trading strategy or system, the trader should first determine the target profit, stop-loss levels that are realistic, easily achieved, and then calculate the break-even levels. Though most beginners are happy to break even when they start trading, traders should be aware that their goal is to make a reasonable profit since they are spending time and taking the risk of investing their money. At the same time could be utilized elsewhere to make some money with far lower risk. Hence the trader should aspire to win more trades compared to the break-even he has calculated. Thus, the trader’s first target has to achieve while perfecting his trading strategy is not the ultimate goal for profitable trading.