Drawdown is an important part of evaluating trading systems that can't be left out. It is very, very important to always look at the maximum drawdown of any trading system.
The biggest drop in a trading system's equity from its high point to its low point is called its maximum drawdown. Let's say, for example, that we have a trading system that reaches a certain equity peak of $100,000. Let's also say that the trading system's equity is $80,000 two weeks later. Let's say that the $80,000 equity is an equity valley in this case. In that case, the drawdown from peak to valley would be $100,000 minus $80,000, which is $20,000. This means that you can only take out a maximum of $20,000.
So why is the maximum drawdown such an important measurement when we look at a trading system? This is because the maximum drawdown tells us how long the trading system is likely to last. A simple measure, but still a measure. When we look at the maximum drawdown, we can say that this maximum drawdown can happen again at any time during the life of the trading system. This is very important when figuring out how big an account should be to start.
As an example, let's say you started trading on the system with a $10,000 account. Right away, it's clear that this wouldn't be a good idea, since our maximum drawdown number shows that if we went into a drawdown right after opening our account, our account balance would be wiped out.
From this quick example, we can see that we need to put more money into our trading account than is needed to cover the worst case scenario. It makes a lot of sense to have some kind of buffer as well.
If you are looking for a trading system and the recommended account size is the same as the maximum drawdown, I would be careful.
The maximum drawdown is an important number that tells us what to expect when trading with a certain system. A comparison of risk vs. reward is one of the most important parts of trading.
Good luck with your Forex trading!
