Explainer
What is max drawdown in a backtest?
Max drawdown is the largest fall of the cumulative result below its running peak, measured in R or in dollars, starting from the beginning of the run.
Updated
Peak to trough
Add up the result of every trade in the order the trades closed. That gives a line: the equity curve. Drawdown is how far that line sits below the highest point it has reached so far.
Max drawdown is the largest such fall in the whole run. In our reports it is the largest fall of cumulative net R below its running peak, in exit order, starting at 0.
- Peak
- The highest point the equity curve has reached so far.
- Trough
- The lowest point after a peak, before a new peak is made.
- Max drawdown
- The largest peak-to-trough fall in the run.
- Longest losing streak
- The most losing trades in a row.
Why the start counts as a peak
The curve starts at 0, and 0 is the first peak. If the first trades lose money, the curve is already below its peak and the drawdown has already started.
Leave the start out and a run that opens with a long losing streak would show no drawdown until its first winning trade. That would understate the fall. So the starting point is part of the measurement.
R against dollars
R is the trade result in units of the amount risked: the distance from the entry to the initial stop. A trade stopped out at its initial stop is a loss of 1.00R. Drawdown in R says how many of those initial risks the curve fell by.
Dollars depend on size. Run the same trades on twice as many contracts and the dollar drawdown doubles. The R figure stays the same. That makes R the better unit for comparing runs and dollars the better unit for asking whether a given account could have taken the fall.
Drawdown can also be measured in percent of equity, which needs a position size and compounding. A percent drawdown depends on that sizing rule as well as on the trades.
Max drawdown is the deepest fall the history contained. It is a fact about the past, not a limit on the next one.
Drawdown and account limits
Some prop firm accounts, and some trading accounts, set a limit on how far the balance may fall. Programs measure that limit in different ways. Some measure from the starting balance and some from the highest balance reached.
Read the exact definition for your account before you compare it with a backtest’s drawdown. A backtest’s max drawdown is also a single number from one path through the history, so it says nothing about the order the trades could arrive in next time.
Reading drawdown next to the rest
Read max drawdown with the trade count, the longest losing streak and the costs. A fall measured over a few trades is a thinner fact than the same fall measured over thousands. Check also that the figure is net of commission, since costs deepen every drawdown.
Questions and answers
What is max drawdown?
It is the largest fall of the cumulative result from a peak to the lowest point after it, across the whole run.
How is max drawdown calculated in R?
Take cumulative net R in the order trades closed, track the running peak, starting at 0, and find the largest fall below that peak.
Why does the drawdown start at 0?
Because the run starts at 0, and 0 is the first peak. If the first trades lose, the curve is already below its peak.
Is a drawdown in R the same as a drawdown in dollars?
No. R is in units of the initial risk and does not change with the number of contracts. Dollars scale with size.
Does max drawdown set a limit on future losses?
No. It describes the history the rules were run on, and a future fall can be deeper or shallower.