ForecastingStocks

Drawdown is the drop from a previous peak in your account equity, measured as a percentage. If your account reaches a high of US$10,000 and then falls to US$8,500, you are in a 15% drawdown. The moment you make a new high, the drawdown resets to zero.

Maximum drawdown

The maximum drawdown is the largest peak-to-trough fall over a period — the worst the account ever felt. It is one of the most honest risk numbers because it answers the question that actually matters emotionally: what is the deepest hole this strategy put me in?

A worked example

Equity path:   10,000 -> 12,000 -> 9,000 -> 11,000 -> 8,500
Peak so far at each point: 10,000, 12,000, 12,000, 12,000, 12,000

Drawdown at the 9,000 point:  (9,000 - 12,000) / 12,000 = -25%
Drawdown at the 8,500 point:  (8,500 - 12,000) / 12,000 = -29.2%
Maximum drawdown over the path = 29.2%

Note it is measured from the 12,000 peak, not the 10,000 starting point — drawdown is always from the highest equity seen so far.

Why it matters more than total return

A strategy that returns 30% a year but suffers a 60% maximum drawdown is, for most people, untradeable — almost nobody keeps funding an account that has more than halved, and the recovery math (from the ruin lesson) is brutal. Two strategies with the same return are not equal: the one with the shallower maximum drawdown is the better risk-adjusted bet, and the one you can actually stick with through a bad patch.