Portfolio
Drawdown
Drawdown formula
Drawdown = (trough value − prior peak) ÷ prior peak; recovery gain = d ÷ (1 − d)
How to calculate drawdown
Drawdown measures the decline from the previous peak, not simply the return over an arbitrary period. The formula is (current value - peak value) / peak value × 100. A portfolio that falls from $100,000 to $75,000 is in a 25% drawdown. The drawdown is recovered when the portfolio regains its previous peak.
Drawdown and recovery math
Losses and recoveries are asymmetric because the recovery begins from a smaller base.
| Drawdown | Gain needed to recover |
|---|---|
| 10% | 11.1% |
| 20% | 25% |
| 30% | 42.9% |
| 50% | 100% |
This is why limiting severe losses can matter more than maximizing returns in every rising market.
Maximum drawdown
Maximum drawdown is the deepest peak-to-trough loss over a chosen history. It helps compare strategies with similar average returns but very different paths. The measurement is sensitive to the selected start date, frequency of observations, cash flows, and whether income is reinvested. A short backtest can miss the environment that would expose a strategy's real downside.
Drawdown versus volatility
Volatility measures the dispersion of returns in both directions. Drawdown measures the depth and duration of losses from a prior peak. A strategy can show modest daily volatility yet suffer a long, grinding drawdown, so investors often examine both measures alongside liquidity and concentration.
How investors use drawdown
Historical drawdown is not a forecast, but it is useful for position sizing and stress testing. Ask whether a loss larger than the historical maximum would force you to sell, breach a margin requirement, or derail a near-term goal. If so, the position may be too large even when its expected return looks attractive.
Check the measurement before comparing
These recovery percentages are arithmetic illustrations, not recovery forecasts. With a loss fraction L below 1, the gain needed to recover is L / (1 - L). A total loss leaves no capital to recover without new funding. Deposits can restore an account balance without restoring investment performance, so use a cash-flow-adjusted series for portfolio comparisons.
FINRA explains investment risk, including the possibility of losses and the tradeoffs involved in pursuing returns. Historical drawdown is one description of that risk, not a maximum possible future loss. Use the
drawdown recovery calculator to check the loss-and-recovery arithmetic, then compare it with your liquidity needs and investment horizon.
Example
A 50% drawdown requires a 100% gain just to return to the starting value, showing how costly deep losses are.
Common mistakes
- Measuring the loss from the purchase price instead of the prior peak.
- Counting new contributions as recovery. Deposits restore the balance, not the investment return.
Related terms
Put it to work
Drawdown — FAQ
What is Drawdown?
A drawdown is the peak-to-trough decline in the value of an investment or portfolio, measuring how far it has fallen from its highest point.
Can you give an example of Drawdown?
A 50% drawdown requires a 100% gain just to return to the starting value, showing how costly deep losses are.
What is a 20% drawdown?
It means the investment or portfolio is 20% below its previous peak. A rise of 25% from the lower value is required to recover that loss.
When does a drawdown end?
A drawdown ends when the investment reaches or exceeds the peak from which the decline began. Until then, it remains in the same drawdown episode.
Is maximum drawdown the same as risk?
No. It captures one important dimension of risk but does not measure liquidity, permanent impairment, leverage, concentration, or the chance that future losses exceed the historical record.
What is drawdown duration?
Drawdown duration is the time from a prior peak until the investment recovers to that peak. Two strategies can have the same maximum loss but very different recovery times.
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