Learn Forex Trading > Day 12 Class  ( Money Management ) > Drawdown and Maximum Drawdown
Drawdown and Maximum Drawdown
Maximum Drawdown is one way to measure the riskiness of a mechanical investment program.

This is the maximum loss (compounded, not annualized) that the manager ever incurred during any subperiod of the entire time period. Conceptually, the calculation looks at all subperiods of the time period in question and calculates the compound return of the manager over that period. The maximum drawdown is the minimum of zero and all these compound returns.

Compared with other risk statistics, Maximum Drawdown is particularly easy to interpret and apply to your own situation.

  • It is expressed as a percentage – such as 4.5% or 17.8%.

How do we measure Maximum Drawdown? Look at the chart below. It shows the historical results of two alternative investment strategies

Figure I charts the growth of a hypothetical $10,000 investment account over a six year period of time. For each strategy, the colored line plots the increase, or decrease, of the original $10,000 investment over time.

“Drawdown” simply measures any decreases in the colored line – or investment balance – from any "peak to valley".

  • Drawdown represents the total percentage loss experienced by a strategy before it starts winning again ... and drives the investment balance back up.

“Maximum Drawdown” is simply the largest drawdown experienced by a strategy during the period of time under study.

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