Drawdown Definition – What is Drawdown? | CFI JO
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drawdown

Drawdown is used by traders to measure any decline in investments over a specific time period and is important as a measure of historical risk when investors look at various stocks and investment funds. It is normally expressed as a percentage and measures the peak to trough movement (the decline) of an investment over a specific time period.

 

As an example, let us say that a trader buys an instrument at £100 and the price rises to £115, before dropping to £90 and then rising again to £115.

 

As drawdown measures the distance from peak to trough, it would be calculated as follows:

 

Peak (£115) minus trough (£90) equals £25.

 

The drawdown is then calculated as distance (£25) divided by peak (£115), equaling 21.7%.

 

A drawdown value remains in effect until it moves back above the peak as it is unknown if a lower trough could be formed before the subsequent rise, resulting in a higher drawdown percentage.

 

It should be noted that traders will often also use drawdown to measure the number of [pips] or points a trade was ‘under water’ before starting to make a profit, rather than measuring the full amount from peak to trough.

 

As an example, traders may buy USD/JPY at 107.35 in the hope that the price rises.

 

If the price of USD/JPY drops to 106.90 before then rallying to 107.80, the trader may describe his trade as having only 45 pips of drawdown (107.35-106.90).

 

In this example, we see that no peak has yet been formed as it is unknown if USD/JPY will continue to move upwards or reverse and start moving back towards the trader's entry point.

 

Key takeaways

 

  • Drawdown is used by traders to measure the maximum downside of a financial instrument or investment fund
  • Drawdown is usually expressed as a percentage and measures the peak to the trough price movement over a specific time period
  • Traders may, however, use drawdown to express solely the number of pips a trade showed to the downside and not calculate using the peak

 

CFI Financial Group is an award winning global financial markets provider with over 23 years of experience and regulated entities in several jurisdictions, focused on offering impeccable execution and trading conditions including very low spreads, professional services, dedicated support and powerful tools.
CFI Financial Group is globally regulated with subsidiaries in
London • Larnaca • Beirut • Amman • Dubai • Port Louis
Credit Financial Invest for
Financial Brokerage Ltd
Al Rabieh Towers, Al Rabieh
17545

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Forex and CFDs are leveraged products that incur a high level of risk and a small adverse market movement may expose the client to lose the entire invested capital. The vast majority of retail client accounts lose money when trading in CFDs. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money. The possibility exists that you could sustain a loss in excess of your deposited funds even if a stop loss is used and therefore, you should not speculate with capital that you cannot afford to lose and be aware of trading risks. Credit Financial Invest for Financial Brokerage Ltd provides general information that does not take into account your objectives, financial situation or needs. The content of this website must not be interpreted as personal advice. Please ensure that you understand the risks involved and seek independent advice if necessary.

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