Trading Drawdowns
THE REALITY OF FOREX TRADING DRAWDOWNS
Drawdowns are a reality of every Forex trader. They can happen at any time, and you must understand how to deal with drawdowns as they come up in your trading system without getting too discouraged.
The idea of drawdown is simple and has been around for a long time. It’s only recently that we’re seeing this trend in everything from Forex trading and Crypto trading to stock market analysis. The idea is simple: if an asset loses value over time then its price will eventually hit zero. Drawdown accounts for the losing result and it’s usually measured as a Forex trading rule in a trading prop firm.
Drawdowns are the difference between high points and low points. They can be broken down into absolute, relative or maximum drawdown depending on what you want to measure risk against for your investments.
Either one single day’s worth of losses (Daily Drawdown), monthly average deviations from investment value over time measured in percentage terms up until now. We can then look at future returns expectations using statistical methods known as Normal Probability Plots or vice versa.
If we’re looking at how much has changed since our last calculation date without taking into consideration any return forecasted yet, then there is also Maximum Daily Loss which takes everything out today so it tells us only about tomorrow’s market movements…
Absolute drawdown
What is the Absolute Drawdown? The absolute drawdown represents how much you lost concerning your initial deposit. Forex traders use this term when they want to calculate what percentage of their investment went below a certain point. Like zero or minimal equity for example- it’s simple math!
The Forex trading formula we will be using has two parts: 1) Initial Deposit and 2) Minimal Equity, which can then give us an idea on whether one was profitable based on these numbers.
For example, if you had £100,000 and an absolute drawdown limit of 20%, the lowest value the equity could go is £80,000. No matter how much profit there is, the equity on the trading account must not go below the £80,000 level.
Absolute drawdown shows the absolute risk on a Forex trading account. It shows the size of the loss and compares it with the current profit or loss. An Absolute Drawdown of £0 means you have no risk at all.
Overall, we use an absolute drawdown that works best as a stop out bar. The above example shows the dashboard example of the absolute drawdown in relation to a live Forex trading account.
Maximum drawdown
What is the Absolute Drawdown? The absolute drawdown represents how much you lost concerning your initial deposit. Forex traders use this term when they want to calculate what percentage of their investment went below a certain point. Like zero or minimal equity for example- it’s simple math!
The Forex trading formula we will be using has two parts: 1) Initial Deposit and 2) Minimal Equity, which can then give us an idea on whether one was profitable based on these numbers.
For example, if you had £100,000 and an absolute drawdown limit of 20%, the lowest value the equity could go is £80,000. No matter how much profit there is, the equity on the trading account must not go below the £80,000 level.
Absolute drawdown shows the absolute risk on a Forex trading account. It shows the size of the loss and compares it with the current profit or loss. An Absolute Drawdown of £0 means you have no risk at all.
Overall, we use an absolute drawdown that works best as a stop out bar. The above example shows the dashboard example of the absolute drawdown in relation to a live Forex trading account.
Relative and daily drawdown
The way we calculated the Relative Drawdown is by dividing our Maximum Loss with highest point on account (equity). Then multiplying that number and converting it into a percentage which gives us an idea about how much more volatile your investments will be in the long run.
Relative drawdown is the less commonly used as you’ll find prop firms use mostly maximum drawdown mixed with a profit factor in their Forex trading account metrics.
Here at Forex Traders UK we don’t operate with a daily drawdown rule. However, many other prop firms require you to maintain a maximum daily loss. This means you need to manage the amount of loss your account takes on within a one-day period. If it is 2% and you begin your day at £10,000, then you cannot lose more than 2% in one day for this example.
Share:
Share on facebook Share on whatsapp Share on twitter