Chapter 33, Part I. Risk Management Framework. Page 6

Prepare to drawdown

Commander in Pips: Every trader should be prepared to deal with possible drawdown of his/her account. This is just a continuation of the previous part. Here is the chart of assets value on an account. The X-axis shows the number of trades, while the Y-axis assets value. Initially deposited assets were $5000. We see a pretty nice profit picture, but during recent time assets start to fall. The distance between most recent high to most recent low is a drawdown. Here it is $8200 – $7400~ $800. Previous drawdown was very small in 4th trade – just around 50$.

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Statistics of this account tells us that the trader has 66.67% of profitable trades and 33.33% of losing trades. If trader will continue work in such manner, he or she should lose no more than 33 trades out of 100. This is a nice ratio. But, can you tell me, to what consequence these trades will come?

Pipruit: Hardly sir, but I suppose that they will spread somehow among profitable trades…​

Commander in Pips: Most probable that you’re right, but we have to look at a worst case scenario, if they will all come initially. In other words, if the trader will lose 33 trades in a row and only after that do 66 profitable trades come. Statistics of this account also tells us that the average loss trade is $133. Hence, 33*133 = $4,389 will be the approximate drawdown if trader will resume the same performance and trading style. From that standpoint we see that the trader applied acceptable money management, since it assumes that it could make twice more losing trades and some assets will remain in the account still.