Drawdown explained: the metric that decides survival
Drawdown is the drop from a peak in your account to the lowest point before a new peak. It is the most important risk number in trading, because it measures the pain you have to survive — and the recovery math is far more brutal than most people realise. A strategy's return means nothing if its drawdown would have wiped you out first.
What drawdown is
Drawdown is the percentage decline from an equity peak to the subsequent trough before the account makes a new high. If your account hits $10,000, falls to $7,000, then recovers, you suffered a 30% drawdown. It captures the worst losing stretch — the experience you actually have to live through, which is very different from the smooth average return a strategy advertises.
Maximum drawdown
Maximum drawdown is the largest peak-to-trough decline over the whole test period — the worst it ever got. It is a key input to the Sharpe ratio and to position sizing, because it tells you how deep a hole the strategy can dig. Two strategies with identical returns can have wildly different maximum drawdowns; the one with the smaller drawdown is almost always the better business.
The brutal recovery math
A loss requires a larger percentage gain to recover, and the gap explodes as losses deepen. A 20% drawdown needs a 25% gain to get back to even. A 50% drawdown needs a 100% gain. A 90% drawdown needs a 900% gain — practically impossible. This asymmetry is why protecting against deep drawdowns matters more than chasing high returns: a strategy that earns 40% a year but occasionally draws down 80% is far worse than one earning 15% with a 20% maximum drawdown.
recovery requiredgain_to_recover = 1/(1 - drawdown) - 1
# 50% drawdown -> 1/(1-0.5)-1 = 1.0 = +100% just to break even
Judging a strategy by its drawdown
When you backtest, look at maximum drawdown before you look at return. Ask: could I emotionally and financially survive this loss without abandoning the strategy at the bottom? If the drawdown would have forced you out — or wiped your account — the return is irrelevant. A strategy is only usable if its worst drawdown is one you can actually live through. Check yours in the backtester, and never judge a system on win rate alone.
Frequently asked questions
What is drawdown in trading?
Drawdown is the percentage decline from an equity peak to the lowest point before a new peak. It measures the worst losing stretch you have to survive — the real experience, not the smooth average return a strategy advertises.
What is maximum drawdown?
Maximum drawdown is the largest peak-to-trough decline over the whole period — the worst it ever got. It tells you how deep a hole a strategy can dig and is a key input to risk-adjusted metrics and position sizing.
Why is the recovery math so brutal?
Because a loss needs a bigger percentage gain to recover, and the gap grows fast. A 20% loss needs a 25% gain to break even, a 50% loss needs 100%, and a 90% loss needs 900% — making deep drawdowns nearly impossible to climb out of.
Is drawdown more important than return?
For survival, yes. A high return is worthless if the strategy's drawdown would have wiped you out or forced you to quit at the bottom. Always check whether you could live through the maximum drawdown before chasing the return.