What it means
Gain needed = loss ÷ (1 − loss). Cut risk during drawdowns, never raise it.
Example
A 20% drawdown needs a 25% gain; a 50% drawdown needs 100%.
In practice
Drawdown measures how much pain a strategy puts you through. Traders look at the maximum drawdown in testing to decide whether they could really sit through it, and to set a risk per trade that keeps it tolerable.
During a drawdown the sensible response is to reduce size and review recent trades, to see whether the losses come from normal variance or from broken rules.
What to watch for
The worst drawdown in a test is only the worst so far; a deeper one should be expected in live trading. Raising risk to recover faster is how a drawdown turns into a blown account.
Related terms
3 terms- Risk of ruinThe chance a strategy loses so much you can't or won't continue; driven mostly by risk per trade.
- Risk per tradeThe share of your account you can lose if a trade's stop is hit, usually 0.5% to 2%.
- Daily loss limitA hard cap on how much you can lose in a day; hit it and you stop trading until tomorrow.