Maximum drawdown
What is Maximum drawdown?
Maximum drawdown is the largest percentage decline from a prior portfolio peak to a subsequent trough during a defined observation period.
The platform should retain peak date, trough date, depth, recovery date, duration, current underwater status, return type, currency, and cash-flow method. A drawdown still in progress has no completed recovery. Historical values should not be recalculated with later portfolio constituents or data unavailable at the time.
Intra-period observations matter because monthly data can miss a deep daily or intraday decline and shorten measured duration.
Comparisons should use aligned total-return data, currency, and observation frequency. A shallower drawdown can result from holding cash or stale assets, so the report should also show return, liquidity, valuation quality, and exposure during the episode.
Calculation
Build a cumulative total-return or value series, track its running peak, and calculate each observation's percentage below that peak. Maximum drawdown is the most negative value. The trough must follow the peak. External cash flows should be removed through a return index or handled consistently so withdrawals are not mistaken for investment loss.
Depth, duration, and recovery
Depth measures peak-to-trough loss. Drawdown duration can mean peak to trough or peak until recovery, so reports should state the convention. Recovery time runs from trough back to the prior peak. A portfolio currently below its high has an ongoing drawdown whose final depth and duration remain unknown.
Example
A portfolio rises from 100 to 120, falls to 84, and later recovers. Its drawdown from the 120 peak to 84 is 30%. Recovering from 84 to 120 requires approximately 42.9%, illustrating why loss and required recovery are asymmetric. Later cash flows or inflation can change the investor's practical recovery experience.
Portfolio use
Maximum drawdown communicates historical pain, supports scenario calibration, and helps evaluate leverage, withdrawals, and behavioral sustainability. Compare depth with benchmark, recovery, market regime, liquidity, and exposure. Sequence matters for investors spending from the portfolio. A strategy can have moderate volatility but a severe concentrated drawdown.
Limitations
The statistic reports one worst historical path and is highly sensitive to sample start, end, observation frequency, currency, and return construction. It does not estimate probability or bound future loss. Monthly data can miss deeper daily declines. Pair it with distributional risk, stress tests, concentration, liquidity, and forward-looking scenarios.
Also known as: maximum drawdown
Sources and further reading
- Risk Management: An Introduction, CFA Institute
- Understanding Investment Performance, FINRA