Drawdown: how does it affect your trading and account

Drawdown and Maximum Drawdown Explained
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So we know that risk management will make us money in the long run, but now we’d like to show you the other side of things.
What would happen if you didn’t use risk management rules?

Consider this example:

Let’s say you have a $100,000 and you lose $50,000. What percentage of your account have you lost?
The answer is 50%.
Simple enough.
This is what traders call a drawdown.

A drawdown is the reduction of one’s capital after a series of losing trades.

This is normally calculated by getting the difference between a relative peak in capital minus a relative trough.
Traders normally note this down as a percentage of their trading account.
https://bpcdn.co/images/2016/05/seni...-to-trough.png
Losing Streak
https://bpcdn.co/images/2016/05/junior-sos.png
In trading, we are always looking for an EDGE. That is the whole reason why traders develop systems.
A trading system that is 70% profitable sounds like a very good edge to have. But just because your trading system is 70% profitable, does that mean for every 100 trades you make, you will win 7 out of every 10?
Not necessarily! How do you know which 70 out of those 100 trades will be winners?
The answer is that you don’t. You could lose the first 30 trades in a row and win the remaining 70.

That would still give you a 70% profitable system, but you have to ask yourself, “Would you still be in the game if you lost 30 trades in a row?”

This is why risk management is so important. No matter what system you use, you will eventually have a losing streak.
Even professional poker players who make their living through poker go through horrible losing streaks, and yet they still end up profitable.
The reason is that the good poker players practice risk management because they know that they will not win every tournament they play.
Instead, they only risk a small percentage of their total bankroll so that they can survive those losing streaks.
This is what you must do as a trader.
Drawdowns are part of trading.
The key to being a successful forex trader is coming up with trading plan that enables you to withstand these periods of large losses. And part of your trading plan is having risk management rules in place.

Only risk a small percentage of your “trading bankroll” so that you can survive your losing streaks.

Remember that if you practice strict money management rules, you will become the casino and in the long run, “you will always win.”
In the next section, we will illustrate what happens when you use proper risk management and when you don’t.

Trading Tips
4 Simple Ways On How To Get Out Of A Forex Drawdown

What Is A Maximum Drawdown?
A maximum drawdown (MDD) is the maximum loss from a peak to a trough of a portfolio, before a new peak is attained.
On the chart below, you can see a $5,000 trading account suffered a $2,500 loss which is a 50% drawdown.
Then after some wins the account made a new peak at $10,000 then fell down to $8,000 after suffering some loss, a 20% drawdown.
READ 6 MT4 Order Types (Sell Stop Buy Stop Buy Limit Sell Limit Market Order)
So here’s what you have:

1. the first peak to valley drawdown was 50%
2. the second peak to valley drawdown was 20%.

Therefore the maximum drawdown here is 50%.
http://forextradingstrategies4u.com/...m-drawdown.png
18 Losing Trades In A Row
I was in a drawdown of 18%. It happened over 2 week period. Now, 18% drawdown may not cause you to push the panic button but what can cause panic is how you reached that 18% drawdown.
You see, I had 18 losing trades in row! For some, this would be enough to question their trading systemand “jump ship” so to say.
No matter what trades I placed, I was losing. Day in day out, every trade I placed, was losing.
It seemed like my losing streak was not going to end.
If you were in this situation, what would you have done?

1. Would you have stuck with your trading system or jump ship and start looking for another trading system to use?
2. Or would you have started to increase your lot sizes for a chance to get that “one lucky trade” that will recover all the loses you suffered?

But here’s the thing though: Forex Trading Drawdowns Storms Don’t Last Forever. They’ve got to end someday…
However, I knew it would end. I knew I would pull out of it, and when I do, it would happen quickly.
And it did happen…QUICKLY!
In just 1 week of trading I managed to wipe out all my trading loses and made a lot more.
So what did I do? What happened?
Well, when it comes down is, it is all about the risk:reward.
If you make a lot more than you lose in a trade, you will always come out profitable in the end. So that’s what happened.

You Are Going To Lose In Forex (That’s A Fact!)
The forex industry is kind of spoilt. People go to forex websites and blogs and read about how much money “you can make” blah blah blah…
And guess what happens?
This breeds this ideas in our heads that ” I’m not going to lose”. Wannabe traders then have these unrealistic expectations that you can make money month after month in forex trading.
And guess what happens when you get into live trading for real?
You start losing…and if your trading loses start to get bigger and you are suffering a big drawdown, you do not make sense of it and do not realize it for what it it.
READ Top 37 Advantages Of Trading Forex Demo Account Before Trading Live
So what do you think happens?

1. overtrading
2. taking larger risks per trade
3. etc.

And the result always tends to end in disaster.
Volatility
You see, there will be times when the forex market will go through a period of low volatility, which means price will be in range bound.
Price will not see to move much and any moves it makes in that low volatility period will be pretty erratic.
You may see a good trading setups and you’d take a trade but price does not follow through.
This causes lots of losses to lots of traders.
It is during such period that many forex traders simply dump their trading systems and start looking for the next “holy grail trading system”.
Accounts that don’t have proper risk management go to zero.
Accounts that rely on big win/loss ratios suffer tremendously.
Now, I’m not a pro trader, nor do I trade forex for a living but from my experience, at the end of a drawdown period, as long as you keep following your system and money management rules, you will make up the lost ground and propel your forex trading account to new heights.
4 Ways On How To Get Out Of Forex Drawdowns
It is simple, yet difficult, at the same time.
However, if you follow these rules you can withstand drawdowns as well.

Rule #1: Risk reward
This makes or breaks your forex trading account: you must have a positive risk reward.
What this means is this: if you lose, you need to lose small and if you win, you need to win big.
For example: Joe takes a trade and his stop loss was 42 pips away from entry.
The trade made 258 pips profit.
So his risk:reward was 1:6.
Now, if every trade, you risk around 42 pips, this win would have wiped out 6 losing trades….Just one trade! Think about it.
Which simply means that you can have more losing trades that winning trades but you will still come out on the top.
READ This Is The Best Trailing Stop Technique (2 Charts Reveals All)
This is why risk:reward is crucial in forex trading.

Rule #2: Keep your risk below 1% of your account.
If you lose, you need to lose small.
If you risk between 1% – 2.0% of your trading account per trade then:

1. 20 losing trades in a row and you’ll still be totally ok
2. 40 losing trading 40 trades in a row and you’d be still fine.

Ignore this rule at your own peril. Be prepared for 40 losing trades in a row.
Sounds crazy, but you have to factor in the worst case scenario into your trading.
Rule #3: Stick with it if…
Only follow this rule if you’ve followed rules 1 and 2.
A lot of people jump ship, because they don’t understand that it is a cyclical low volatility period.
So they decide to “stay out of the market for a bit”.
BS!
The market doesn’t ring a bell when it is ready to start moving again.
If you miss that first swing then you’re giving up a good chunk of pips for the year.
None of these things are sexy, but they are vital.

Rule #4: Recognize the market condition
Learn to understand when the market is in a low volatility period.
Lower your risk to 0.5%, but don’t stay out of the market because of the reasons I just stated.
Once you do this you can happily lose, know that you are protected, and know that in a few weeks or months things will turn around.
None of this is easy. None of it is flashy.
Trading is a long term and boring thing. As it should be.

A lot of people struggle to come to terms with that reality.
After string of losses it is tempting to take profit on a winning trade quickly.
You’re CRAVING a win.
However, you must resist it and manage your trades like a Wall Street Pro.
Otherwise you won’t pull out of the drawdown.
You must manage to stay calm and only exit a trade once it gives you a huge return.
Summary
Losing trades in a row and seeing your drawdowns increase can drive your crazy. But that’s how the markets work.
You need to keep taking the trades, reduce your risk, and stick with it.
Don’t forget to share this article.

Gidday Aussie, good to see a fellow western vic trader .... Personally if I get 4 losers in a row I stop trading . and have a look to see WHY I'm losing , Good Fortune " SP

HI Mate yes thinking about whats going wrong is the right way to go

Very nice post Aussi ,hope your keeping well mate.

hi buster i am well , welcome mate

""""" its important to read and listen after you do you keep the bits you like and toss the rest into the bin """"

if you have a $200000.00 account and in a year had $90000. profit and draw down of $30000. leaving a $260000.00 balance how much money have i lost well let me tell you

++ let's not forget the detrimental effects of spread widening on a super leveraged trade is the huge tool brokers have to blown accounts. Every account with bucket shop has a "pip counter" showing "distance to margin call" on their trading desk and it is such a piece of cake for them to simple widen the spreads for a fraction of a second to trigger margin call (and blame it on market volatility).

Everyone to advocates high leverage and trade one pair or one trade at a time or hedge is a scam artist fooling noobs out here ! The more open positions you have, the more positions you have across pairs, the smaller sized positions you have in your account, the more 'space' you have across your positions reduces the overall risk exposure to broker or market/price manipulation. Increase Exposure instead of Increasing Risk is the key to survival !

Fine read Aussi ! Thanks for taking the time to address this important topic for folks to understand. I wish I had researched this topic in 2006 to prevent STUPID mistakes I have made. It is important to note that "Account Balance" or Trade Log or Realized Trades is just to keep track of accounting. It has zero impact on available margin so the only REAL Max drawdown "to me" is the peak to trough of Floating Equity. AccountEquity is truly your trading capital. One could VERY easily have a reverse RR and grow account balance and let losers float in the hopes that they will eventually return to profitability. This is exasperated by MT4's Account Statement which focuses only on Account Balance Curve instead of the Account Equity Curve. So, I ask myself, what's the best way to limit equity drawdown?
Here's my recipe:

1. Have a positive risk:reward ratio of 1+ on a per trade level or at the basket level depending on your strategy
2. Have a robust discipline of never ever to add to a losing trade or hedge a losing trade
3. Always add new positions only if the previous trade is in profit with enough space in between trades (for position trades) or when previous trade is moved to breakeven or any of the standard trade mgmt techniques which REDUCES risk or keeps the risk constant.
4. Never increase/decrease position size based on intraday/week trading results or on the outcome of previous trade. This one needs further explanation:: Everyone promotes % risk per trade but they forget EVERYTHING in your account is a "variable". Your account balance changes based on open/closed trades/ Your account equity changes based on floating positions. pip value varies based on position size., margin requirements change based on underlying values or changes in swap rates, even with no open or closed trades, account balance can deplete over time so I ask myself.... why do so many fools (I use fools liberally as used by the guys at Motley Fools so no offense to anyone!) promote and advocate % based risk model. YOU CAN NEVER ACHIEVE CONSISTENCY IF YOU ARE BASING YOUR TRADING STRATEGY ON VARIABLES THAT KEEP CHANGING every minute or every hour or every day or every week !

Even if you do all the above and more, there is no guarantee that one wont experience equity drawdown. I have YET to find any strategy which lasts for more than 3 yrs and caps drawdown under 10%-15%. FX is unlike any other market. Any time an earthquate or tsunami or hurricane or nuclear test could blow your account past your STOPS. One of the main reasons why I have embarked my journey into systemic trading with emphasis on portfolio balancing/optimization and statistical/probability based machine learning (still learning!).

This journey is mentally invigorating but NOT easy and certainly NOT recommended to put money at risk that you are not willing to lose. It is not for the faint heart and it is definitely not for dreamers with greed !

Peace!

thank you for your comment and new traders should read as well as oldies like me

thank you also for your comment again new traders should read

My view on drawdown is everyone has a different number he feels comfortable with. Of course it depends on the account size as well.
For some 60% dd is okay, for others 5% is the max the are willing to take. And that's fine. Whatever floats your boat.

But one thing to consider are events out of your control. And I don't necessarily mean black swan events only.

I myself fell into that trap when Pepperstone forced me to close all trades in a floating (managed and accepted) drawdown.
One week later my trades would have been positive and I ended up losing a lot.
So even though my trades were planned and everything was going fine, just because of this one thing I had no control over, my drawdown ended up hurting my account.

So it's not a question of how much dd is fine, but as always "what can I do to ensure my funds are as safe as possible".
And that includes keeping your dd low.

mind to elaborate how your broker "forced you" into closing your trades when in acceptable/normal drawdown?

They gave me an ultimatum of two weeks. After which my account got closed.

Google Pepperstone FCA. There are some topics even on this forum about it.
In a nutshell: No EU citizen allowed at Pepperstone AU anymore, because of FCA regulation changes. Have to transfer to Pepperstone UK (which is a whole different story in itself). That transfer came with a short ultimatum attached.

thanks for you comment interested to learn more