Risk & Performance
Maximum Drawdown
The largest peak-to-trough percentage decline experienced in the portfolio's history.
Formula
Maximum Drawdown = minₜ [(Valueₜ − Peakₜ) ÷ Peakₜ]
Variables
Valueₜ- Portfolio value at time t
Peakₜ- Highest value before time t
Worked Example
Scenario: Portfolio peaks at $125,000 and falls to $92,500 has maximum drawdown = ($92,500 − $125,000) ÷ $125,000 = −26%.
Steps:
- Track running peak value as portfolio grows
- At each point, calculate current value minus the prior peak
- Divide by the prior peak to get drawdown %
- The most negative result is maximum drawdown
When to Use This Formula
- Measure worst historical loss experience
- Evaluate portfolio risk in context of recovery
- Compare drawdown patterns between strategies
Limitations & Assumptions
- Historical, not a bound on future loss
- Start date and valuation frequency affect measurement
- Does not distinguish between brief vs. prolonged declines
- Recovery time is not captured
Common Questions
Is maximum drawdown the same as a periodic loss?
No. A period loss compares two endpoints; drawdown compares each point to its prior peak (path-dependent).
Measuring return and risk
- Profit factor formulaFormula
- Win rate formulaFormula
- Risk-reward ratio formulaFormula
- Beta formulaFormula
- Alpha formulaFormula
Reference note: This is an educational mathematical reference. The formula's applicability depends on assumptions, market conditions, and use case. Always verify results independently and consult domain experts for decisions.