Drawdown describes a decline in account equity from a previous peak to a later low. It is different from the loss on a single trade because drawdown measures the path of the account over time.
Maximum drawdown
Maximum drawdown is the largest peak-to-trough decline observed during a selected period. It can be expressed in money or as a percentage of the previous peak. Investors and traders often use it as one measure of how difficult a strategy's losing periods have been.
Recovery is asymmetric
A 10% loss does not require another 10% gain to recover. After a 10% decline, an account at 90% of its previous value needs roughly 11.1% growth to return to the original level. Larger drawdowns require disproportionately larger gains, which is why controlling downside is important.
Drawdown and position size
Position size directly affects the financial impact of a sequence of losses. A strategy with the same entry rules can produce a very different equity curve when risk per trade changes. Risk limits should therefore be considered alongside the signal itself.
Don't hide behind averages
Average returns can obscure clustered losses. Reviewing the sequence of trades, longest losing streak and drawdown duration can reveal risks that a single performance number does not show.
Use drawdown as a monitoring metric
A trading plan can define conditions for reducing exposure or pausing a system when observed behavior moves outside the tested range. Such rules should be specified in advance rather than invented after a loss.
Key takeaway
Drawdown is about the experience of losses through time. Monitoring its size, duration and relationship to position size helps traders understand whether their risk plan is consistent with the strategy they are using.
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