WHAT IS A DRAWDOWN?

A drawdown is a decrease in an investment account from its top to bottom in a given period of time.

Drawdowns are usually recorded as a percentage of the previous capital.

The formula for calculating drawdown = the amount of capital that has the strongest decline in the period (= the capital bottom - the capital peak) / the amount invested at the peak of the period


ILLUSTRATION OF DRAWDOWN



AN EXAMPLE OF A DRAWDOWN

In 2016, you started with an investment of $ 10,000. You grow this capital to $ 16,000, then lose $ 8,000, and then end the year at $ 12,000. Thus, the highest peak of your capital in 2016 is 16,000 and the lowest low is 8,000, so the amount your account has lost during this period is 16,000 - 8,000 = 8,000 USD. The calculated drawdown rate is 8,000 / 16,000 = 50%


WHAT IS THE IMPORTANCE OF DRAWDOWN TO MARKET TRADER'S TRADING SYSTEM?

Any investment channel or financial transaction will have a drawdown (referred to as DD). No one can avoid drawdowns.

Because loss is always a part of the investment, we must control it closely. Drawdown as little as possible.

A proven trading system (backtest) in the past and good profit is not all. Traders need to pay attention to the drawdowns. If the drawdown is too large, it means the account fire risk is large. Consideration should be given to omitting such trading systems


WHAT KIND OF DRAWDOWN ARE THERE IN METATRADER 4?


When you save the transaction report on Metatrader 4 software as a Detail Report (detailed report), you will see these 3 parameters.
  • Absolute Drawdown: is the loss between the starting capital and the time when the lowest capital in the account is
  • Maximal Drawdown: is the amount of profit and loss compared between the highest capital peak and the lowest capital bottom in the account
  • Relative Drawdown: is the loss rate of the above Maximal Drawdown compared to the original capital
Because of Drawdown's importance in evaluating a transaction report, Metatrader 4 has shown three types of drawdowns for you to scrutinize.