What is drawdown? How can investors trade and control the Drawdown rate? Let’s explore Forex Trading more deeply and what the Drawdown strategy means in the volatile Forex trading market through the article below!
What is drawdown?
In the Forex trading market, there are two important and always opposing factors: profit and risk. In particular, Drawdown is an index representing the level of risk. It represents the decreasing volatility of an account over a certain period, measured by the decrease in invested capital.
What is drawdown? It is calculated from the peak of capital to the lowest point of capital during a specific period. Usually, this indicator is expressed as a percentage, called the Drawdown ratio.
Drawdown analysis in gold trading strategies
What is drawdown? Some ways to analyze scalping gold trading strategies in Drawdown you should not ignore.
Absolute Drawdown Gold Trading Strategy
In forex, drawdown is the largest decrease in an account compared to its initial capital. Or from when money is deposited into the account within a certain period. What is Absolute Drawdown? It is the distance from the lowest capital to the initial balance of the account. Expressed as an absolute amount, not a percentage.
An account’s Absolute Drawdown only changes when the account balance creates a new low, below the previous low. It reflects the highest level of capital loss from the time money was deposited into the account to the present time. When the Absolute Drawdown increases, this shows that the trader is experiencing capital losses larger than the initial capital.
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Maximum Drawdown gold trading strategy
The maximum Drawdown of an account is the largest. Calculated from the highest capital peak of the account to the lowest point of the next capital. This means that the lowest point of capital is used for the calculation. This indicator must appear after the highest capital peak the account has ever achieved. Maximum Drawdown is also expressed as an absolute amount.
Maximum Drawdown of an account is recognized only when the account balance is outstanding. It goes beyond the previously determined range between the highest high and lowest low. In the example presented, the account balance that generated the highest peak was $150. Then dropped to the lowest bottom of $75. Therefore, the Maximum Drawdown is 75$. During the next period, the account balance continues to fluctuate but does not exceed this range.
What is the Relative Drawdown gold trading strategy?
Relative Drawdown is Maximum Drawdown expressed as a percentage. Calculated by dividing Maximum Drawdown by the highest peak value of capital. Through Relative Drawdown, we can easily evaluate the risk level of the account by a loss percentage, instead of just looking at an absolute number.
What is the formula for calculating Drawdown?
What is drawdown ratio the calculation formula is usually calculated as a percentage compared to the initial equity. The calculation formula is as follows:
Drawdown ratio (%) = (Strongest decline in capital / Investment capital at peak) x 100%
In there:
- Strongest decrease in the capital: This is the largest decrease in account value. It is calculated using the formula: Bottom of capital – Peak of capital.
- Investment capital at peak level: This is the highest account value achieved during the Drawdown calculation period.
For example:
Suppose investor A starts trading with a capital of 10,000 USD. Favorable market fluctuations helped the account increase to 16,000 USD. However, then the market reversed sharply and the account dropped to 8,000 USD. Next, the market recovered slightly and ended at $12,000.
Analysis:
- Peak capital: 16,000 USD
- Bottom capital: 8,000 USD
- The largest decrease in capital: 16,000 USD – 8,000 USD = 8,000 USD
Drawdown ratio: (8,000 USD / 16,000 USD) x 100% = 50%
How to control the Drawdown trading strategy
The continuous increase in Drawdown is largely due to the psychology of investors when they face losses. Below are four methods that investors can apply to evaluate the current trading status and control Drawdown in trading activities.
Limit the risk Drawdown level to the lowest possible level
During periods when the market is out of control, investors can face losses from dozens of buy and sell orders in just a short period. This greatly affects trading psychology, causing investors to often continue to open new orders. To cut losses quickly, while taking huge risks. This is a common psychology that every investor needs to control by keeping the risk level as low as possible.
Apply the 1% risk rule, limiting the risk level to between 1% and 3%. It helps increase investors’ ability to survive after the market stabilizes. Minimizing loss of assets also helps avoid the risk of burning your account. Despite losing 30 orders of 1 USD each, this cannot deplete the investor’s account like losing 10 stop-loss orders of 100 USD each.
Especially for new investors with small assets. This is the ideal time to get acquainted with the market and gain experience. Therefore, keep the risk level to a minimum so that you can survive and continue to learn in the long run.
Gradually reduce the risk ratio as losses increase in trading strategies
An improved method of limiting risk is for traders to gradually reduce the risk level to maintain a certain profit-taking ratio.
For example:
- If the trading account has $1000, the Trader can place a new order. Now the risk level is 5%, which means stop loss at $100
- If the first trade loses and the account drops to $900. Traders can continue to reduce risk levels to around 3% – 2%
- In case of continuous losses, with each new order, the investor should reduce the risk level a little. This will help them maintain and survive long-term in the market.
What is a Drawdown limit in trading periods?
Depends on the current capital and risk tolerance level of each individual. Traders can set limits at certain levels. For example, they set a risk limit of 30% for 1 month or 30% for 1 week. Once these limits have been reached, investors will suspend trading until the next cycle. This is an effective way to limit What is drawdown level is.
During these breaks, investors can take advantage of them to supplement their knowledge about the market. This is to optimize the investment strategy for the next trading sessions.
When you lose too much in a trade, you should temporarily stop trading
When you feel you have lost too much, stop trading immediately. However, this can be one of the most difficult decisions investors face.
Most investors, when faced with difficulties, often feel pressured to continue trading. To hopefully be able to recover the losses incurred. However, when losses persist and the number of negative assets is too large. In such a case, investors should stop and control their emotions.
This time off can be used to learn and reapply risk management principles in investing, preparing for starting again in the future.
See more: Together XM Forex: Master the game, increase income
How to track the Drawdown campaign in MT4 software
On MT4 software, you can create detailed reports by creating an advanced Pivot Tables opened in the Account History tab in the Terminal pane. You can then select Save as Detailed Report by right-clicking on any command line.
For example: Suppose the initial balance is $100. Your first trade had a profit of $30, then you lost $70 and finally closed the trade with a loss of $20. If calculated by balance, the Maximum Drawdown is 20%, but if calculated by equity, the Maximum Drawdown is 53.8% (peak capital is 130$, bottom capital is 60$). The new maximum loss rate of 53.8% accurately reflects the highest level of risk that the account has encountered during trading.
Summary:
Above is an article about the concept of what is drawdown and measures to help investors control the Drawdown rate. Forex Trading hopes that the above information has partly answered readers’ questions about terms in the Forex market. Don’t hesitate to leave a comment below so we can assist you!
FAQs:
How to control the Drawdown ratio well?
In the forex market, rates play an extremely important role. The ability to disrupt all your trading plans. To achieve a low Drawdown ratio, it is important to control trading psychology. Effectively and always comply with the set principles.
Usually what Drawdown ratio is good?
The lower the Maximum Drawdown, the better because it represents the risk level of the account. Some experts set a benchmark at 20% to assess risk. That is, the trading system should not exceed 20% Maximum Drawdown. This means that if you lose 20%, you need to win 25% to get back to your starting capital. However, if Maximum Drawdown is high, breaking even becomes more difficult.
How to evaluate the Drawdown index objectively and accurately?
Current reviews of trading systems based on the Drawdown indicator. However, research shows that this index does not reflect the true nature of the system. For example, an investor whose balance drops to $500, equivalent to a 50% decline, still keeps positions open. When stopping loss at $50, the Drawdown was recorded as only 5%, making the assessment of the system inaccurate. To evaluate the effectiveness of a trading system, the real capital drawdown should be considered, not the balance.
