What Is Drawdown in Trading?

Drawdown explained: how it is measured from peak to trough, why maximum drawdown is the number that matters, and the recovery table showing why a 50% loss needs a 100% gain.

Drawdown is the decline in an account from its highest point to a subsequent low, measured as a percentage of that high. It is the number that describes how bad things got, and it is the one measure of risk that every trader experiences personally.

Key Takeaways

• Drawdown is measured from the peak, not from the starting balance.
• Maximum drawdown is the largest peak-to-trough decline over a period. It is the figure that decides whether an approach is survivable.
• Recovery is asymmetric: a 20% drawdown needs a 25% gain; a 50% drawdown needs 100%.
• Position size is what keeps drawdowns small. Nothing recovers a large one quickly.

How Drawdown Is Measured

Drawdown is $5,600 → $4,760 = $840, which is 15% of the peak. Measured from the $5,000 start it would look like a 4.8% loss; that understates what happened to the account at its worst. Drawdown always references the high.

Maximum Drawdown

Over any period, the largest single peak-to-trough decline is the maximum drawdown. A strategy that returns 30% a year with a maximum drawdown of 8% and one that returns 30% with a maximum drawdown of 45% are not similar; the second one requires surviving a period in which nearly half the account was gone. Most traders cannot, and abandon the approach at the bottom.

The Recovery Table

The gain needed to recover from a drawdown is larger than the drawdown, because it is earned from a smaller base.

The formula: recovery = 1 ÷ (1 − drawdown) − 1. The curve is gentle at first and then vertical. Everything about position sizing is an attempt to stay on the gentle part.

Worked Example: Two Sizes, One Losing Run

Same $5,000 account, same five consecutive losses at the stop, two position sizes.

Same trades, same market, same run of bad luck. The difference in drawdown is entirely the size, and the difference in what it takes to get back is entirely the arithmetic above.

(Illustrative. Excludes costs.)

Why It Matters

Drawdown is where risk management meets psychology. A 5% drawdown is a bad week. A 25% drawdown is where traders start doubling size to get back — the fastest route to 50%. The value of keeping drawdowns small is not only mathematical; it is that a small drawdown does not change how you make the next decision.

For the same reason, drawdown belongs in a risk management plan as a hard limit: a level at which size is reduced, or trading pauses, decided in advance.

Risks Related to Drawdown

• Measuring from the start, not the peak. Understates the damage.
• Increasing size in a drawdown to recover faster. See revenge trading.
• Judging an approach by return without its maximum drawdown.
• Not having a drawdown limit until you are in one.

What is an acceptable drawdown?

The one you can trade through without changing your decisions. For most retail traders that is well under 20%; the specific figure is personal.

Is drawdown the same as a loss?

A loss is one trade's result. Drawdown is the account's decline from its peak, across trades, and it can include a period of gains that did not get back to the high.

How do I calculate drawdown?

(Peak − trough) ÷ peak. A fall from $5,600 to $4,760 is $840 ÷ $5,600 = 15%.

Why does recovery need more than the drawdown?

Because the gain is earned on the smaller post-drawdown balance. A 50% loss leaves half; doubling that half is a 100% gain.

Does drawdown apply to a single trade?

Open drawdown on a position is the floating loss from its best point. The term is more useful at the account level.

Related Terms

Position sizing · Risk management in trading · Trading risk management plan · Risk-to-reward ratio