What Is Drawdown?
Drawdown is the percentage decline from a portfolio's high-water mark to its subsequent low. Maximum drawdown (MaxDD) is the worst peak-to-trough decline observed in a backtest or live track record.
Drawdowns matter more than most retail traders realise because recovery is mathematically asymmetric. A 20% drawdown requires a 25% gain to break even. A 50% drawdown requires a 100% gain. A 90% drawdown requires a 900% gain. Large drawdowns are essentially unrecoverable for most strategies.
When evaluating any trading strategy, look at maximum drawdown alongside returns. A strategy returning 30% annually with 60% max drawdown is much worse than one returning 15% annually with 12% max drawdown — the risk-adjusted return (Sharpe ratio) of the second is dramatically better, and you're far more likely to actually trade it long enough to capture the returns.
Related terms
- Sharpe Ratio — Risk-adjusted return — the excess return per unit of volatility.
- Volatility — A statistical measure of how much an asset's price varies over a period.
- Risk Management — The systematic process of identifying and controlling exposure to losses.