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Do You Know Your Drawdown?

Do You Know Your Drawdown?

Do You Know Your Drawdown? This is a question at which any trader should be able to answer in no time. And one should also be able to know how to manage it.

What is a drawdown?

Drawdown is the period between an all time high and a valley, during a specific period for a trading account, fund or any other type of investment. And it is usually quoted as the percentage between the peak and the subsequent valley. For example, if you have a trading account with 100.000 euro and the funds from it drop to 90.000 euro then you say that the trading account has a 10% drawdown. Keep in mind that the drawdown is a dynamic measure and it changes together with the trading performance. Therefore, this is the reason why a trader should keep a closer eye to his or hers drawdown.

Which is the Capital Patterns drawdown?

So far, the Capital Patterns tracking account which can also be found on MyFxBook (click for link), has witnessed two drawdowns. The first one is a 20% drawdown and it ended on April 20th 2020 and the second one is 6.12%. So, at this moment the Capital Patterns trading account is in the second one. And, the most important thing to be mentioned here is that, so far, I managed to lower my average loss trade from 0.4% to 0.35%. I know that it doesn’t look much but, think about it this way: 0.05% saved for 10 trades, for example, means a 0.5% loss avoided. And, for 100 trades means a 5% loss avoided. And, so far, for 2020 I have already approximatively 80 trades.

Take a closer look at the Capital Patterns tracking account’ drawdown

You can see the improvement by checking out this article: How to Analyse Your Trading Results?. You’ll find in there that my average loss was 25.40 euro and now, after another month, my average loss is 21.62 euro. You’ll also see that my average win is now 14.68. And one month ago my average win was 47.57 euro. But, I’m always looking for an asymmetric risk reward ratio of 1:3 – 1:4. And this means that I am 3 winning trades, with 0.8% risk and 1:3 risk reward ratio, away from a new all time high.

the-second-drawdown-of-the-capital-patterns-tracking-account-detail
The second drawdown of the Capital Patterns tracking account detail

Why is your drawdown so important?

Well, the drawdown offers a lot of clues about a trading style and about a trader. Why? Because it gives important details to any potential investor about what an evolution of a potential investment would look like. So, if a trading account has a 80% drawdown it means that a potential investor might see his investment diminished by 80% before he or she can see any profits.

What exactly does a -80% drawdown mean?

It means that for a 100.000 euro investment, an investor can see an 80.000 euro loss before he or she will be able to see any profits. Moreover, if an account will witness a -80% drawdown it means that it will need a 500% profitability in order to be on breakeven. For example, let’s say that an investor has in his or hers trading account 20.000 euro, left from the initial investment of 100.000 euro. So, the same investor needs to have a 500% (5 * 20.000 euro = 100.000 euro) profitability in order to recover to 100.000 euro.

One spends about 75% in a drawdown state! So, do you know your drawdown?

Yup, you read it right. And, it is not me who said that. But dr. Robert Frey during the Finance colloquium “An Analysis of 180 Years of Market Drawdowns” on 30 June 2015 organised by Institut des Hautes Études Scientifiques (IHÉS). Here’s the YouTube link if you want to take a closer look: Robert FREY – 180 years of Market Drawdowns. You should also know that dr. Robert Frey is the Founder, and Chief Executive Officer of global fund of hedge funds group FQS Capital Partners.

In conclusion, do you know your drawdown?

So, at this moment I think that it is more clear why “Do You Know Your Drawdown?” is a very important question. There are a lot more things to say about drawdowns. But, for now, I really think that every aspiring trader has a better idea about the importance of the drawdowns. And also about what expectations one can has from a trading career.

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