What Is Drawdown?
Drawdown measures the decline from a portfolio's peak value to its lowest point before recovering to a new peak. Maximum drawdown is the largest such decline ever recorded for a strategy or portfolio. A strategy with a 30% max drawdown means that at its worst, it lost 30% from its highest point before eventually recovering.
How Drawdown Works
Drawdown is expressed as a percentage and is one of the most important risk metrics because it directly measures pain. A 50% drawdown requires a 100% gain to recover. A 75% drawdown requires a 300% gain. The math is asymmetric and punishing. Professional funds typically target max drawdowns of 10-20%, while many retail crypto traders experience 50%+ drawdowns.
Why It Matters for Traders
Understanding your strategy's expected drawdown is essential for both risk management and psychology. If your backtest shows a 25% max drawdown, expect to encounter at least that much in live trading (often more). Setting a maximum acceptable drawdown before trading and having a plan to reduce position sizes or pause trading during deep drawdowns preserves capital and mental health.
How Perps Traders Use This
For CEX perpetual futures, treat drawdown as context around entries, exits, and risk, not as a standalone signal. Pair it with funding, open interest, and liquidation heat so one indicator does not drive the whole book.
Formula and Worked Example
Example numbers only (not a live quote).
If your account equity is $10,000 and you risk 0.5% per idea, the cash risk budget is $50. With a stop 1% away from entry on a linear USDT-margined perp, notional size is about $5,000 before leverage optics. Size from stop distance first, then pick leverage that fits the margin mode.
Common Mistakes
- Treating a single print of drawdown as a trade signal without checking funding, open interest, and your liquidation price.
- Mixing venue conventions (coin-margined vs USDT-margined, cross vs isolated) and reading the wrong mark.
- Copying example numbers from a glossary into live size without checking the current book depth and fee schedule.
- Ignoring related terms that change the meaning of the print on a given day.
