So this is the question: What is Maximum, Absolute, and Relative Drawdown?
Absolute Drawdown Definition
The absolute drawdown represents the difference between the initial deposit and the minimal point below the testing period’s deposit level. For example, if the deposit amount is $10000, maximum portfolio value $16000, and minimum $7000, then absolute drawdown is $10000-$7000=$3000. This measures the amount of initial risk involved in the investment. The absolute drawdown shows how big the loss is compared to the initial deposit during the trading. If the absolute drawdown value is 0, for example, this means that no capital was at risk.
Formula: Absolute Drawdown = Initial Deposit – Minimal Equity
Absolute drawdown forex example
As we can see, the distance from $10 000 to $7000 is $ 3000, and it is the distance from the initial balance to value below the initial balance.
Absolute drawdown vs. maximum drawdown vs. relative drawdown
In its most basic sense, Drawdown refers to the relative risk involved with a particular securities investment.
When faced with any investment decision, it would be wise for investors to consult as many and as varied several indices as possible before making that purchase or sell. One of the most critical sets of indicators is the general capital trend associated with security.
This article will explain the concepts of maximum, absolute, and relative drawdown as those terms relate to securities trading.
In its simplest sense, the drawdown refers to just how much you could lose with a particular investment; thus, it makes it a relatively strong indicator of the overall risk of a security.
For example, if you risk $100 and lose $50, your drawdown is 50% because you have lost half of your initial investment value. To put it in the simplest terms, the drawdown is the difference between a high in the capital and a low point in the capital value.
The drawdown is the difference between maxima and minima on your Forex chart. This measures the amount of risk-loss involved in your proposed security trade. This number is further divided into maximum drawdown and absolute drawdown. We will explain those terms now.
It is important to understand that a draw-down is important when choosing a PAMM provider or choosing a Zulutrade signal provider.
Absolute drawdown vs. maximum drawdown
The maximum drawdown refers to the difference between a local max and the next minimum in your chart. This spread can show you the potential profit value locked in the trading pair you have selected. If the maximum drawdown is higher than the currency pair’s profit potential, it might not be an investment that you want to consider. One of the most central strategies that traders use to guide them when it comes to this number is determining a ratio that the trader is comfortable with and avoiding trading pairs that vary wildly from that dynamic.
Maximal Drawdown = Maximum distance (Maximal Peak – next Minimal Peak)
SO we need to find the highest high till lowest low in trading balance $16000 – $7000 = $ 9000.
Absolute drawdown vs. Relative drawdown
Relative drawdown is the maximal drawdown percentage shows the ratio between the maximal drawdown and the value of the respective local upper extremum (of equity)
Relative Drawdown = MaxDrawDown % = Max Drawdown / its MaxPeak * 100%
What is a good drawdown in forex?
The good drawdown in forex is less than 5% maximum drawdown based on major prop trading companies’ trading rules. However, retail traders imply that a maximum drawdown of less than 20% is optimum for a trading account. Usually, retail traders risk more money, and their perception is different than professional traders that manage large funds.
Forex trading often relies upon keen intuition and interpretation for charts and data relating to the drawdown. Because of its highly volatile nature – or its tendency towards wide swings in some currency pairs – having a keen sense of risk is often the most powerful tool an investor has in their arsenal.
The most important thing is to measure Maximum Equity Drawdown because this is the most important criterion for measuring a good portfolio. If we look only at balance, many traders who do not put stop-loss or use broad stop loss will avoid showing real equity drawdown, bringing huge problems to investors’ or traders’ minds. The worst thing is when the trader thinks that he has excellent strategy and strategy is risky because of the huge equity drawdown.
Absolute drawdown is an excellent measure when we want to see our performance in the first months of trading and compare it with the initial balance. Still, for long-term portfolio analysis, maximum and relative drawdown are much better solutions.