In Forex trading, drawdown refers to the peak-to-trough decline in the account balance or equity curve. It represents the percentage or monetary amount of loss from the highest point (peak) to the lowest point (trough) before a new peak is reached. Drawdowns are a normal part of trading and can occur due to losing trades or a series of consecutive losses.
There are two primary types of drawdown in forex trading: realized drawdown and unrealized drawdown.
- Realized Drawdown: Realized drawdown refers to the actual losses incurred during a trading period. It represents the reduction in equity that has already been realized or experienced by the trader. Realized drawdown occurs when trades have been closed, and the losses have been locked in. It reflects the historical performance of the trading account.
For example, if a trader starts with a $10,000 account balance, experiences a series of losing trades, and the account balance decreases to $8,000, the realized drawdown would be $2,000 or 20% ($10,000 — $8,000 = $2,000 or 20% of $10,000).
- Unrealized Drawdown: Unrealized drawdown, also known as a floating drawdown, represents the current paper losses on open trades that have not been closed yet. It reflects the temporary decline in the account balance based on the market value of the open positions. Unrealized drawdown can change as the market moves, and it is not realized until the trades are closed.
For example, a trader opens several positions that are currently showing a combined loss of $1,500. This $1,500 represents the unrealized drawdown until the positions are closed. If the market turns in favor of the trader, and the positions start showing a profit, the unrealized drawdown will decrease or turn into an unrealized gain.
It is important to note that while unrealized drawdowns can fluctuate based on market conditions, they do not impact the account balance until the trades are closed. Once the trades are closed, the unrealized drawdown becomes realized.
Understanding the difference between realized and unrealized drawdown is essential for traders to assess the risk and manage their trading strategies effectively. Monitoring and controlling drawdowns are crucial for maintaining capital and preserving account stability. Traders often use risk management techniques, such as setting stop-loss orders and employing proper position sizing, to limit drawdowns and protect their trading capital. We automate all of that at Ladon. Risk management is a top priority.
In the case of Ladon, our annual realized drawdown was 0.44% of the total account, indicating the actual losses incurred and locked in during the trading period. This means that at some point during the year, Ladon experienced a temporary decline in the account balance equal to 0.44% of the total account value. However, Ladon was able to recover from these losses and continue trading.
On the other hand, Ladon’s unrealized drawdown was 3.37%. This represents the paper losses on open trades that have not been closed yet. These unrealized losses reflect the temporary decline in the account balance based on the current market value of their open positions. It’s important to note that these losses are not realized until the trades are closed.
Despite experiencing an unrealized drawdown of 3.37%, Ladon managed to achieve gains of 17.48% during that year. This indicates that the overall performance of their trading strategy was positive, even though they faced temporary paper losses on their open positions. See https://www.myfxbook.com/members/Ladon for more detail.
The contrast between Ladon’s realized drawdown of 0.44% and unrealized drawdown of 3.37% highlights the distinction between actual losses that have been incurred and locked in (realized) versus temporary paper losses on open positions (unrealized). It also demonstrates the importance of monitoring and managing drawdowns in order to protect trading capital and achieve consistent profitability.
By effectively managing their trades, Ladon was able to navigate through temporary market fluctuations, limit their realized drawdown, and capitalize on profitable opportunities. This example showcases Ladon’s ability to maintain a relatively low realized drawdown compared to the unrealized drawdown, indicating successful risk management and trading discipline within the firm.
In conclusion, we want to emphasize that as traders and investors, you have the flexibility to adjust your risk levels to potentially increase your returns. We start you at our base level, but you can change that any time simply by getting in touch with us. However, it is important to recognize that higher risk comes with the possibility of experiencing larger drawdowns.
Taking Ladon’s example, if the drawdown was increased to 0.88% of the total account (and we would assume double the unrealized drawdown) the potential gains during that same historical period could have reached as high as 34.96%. This showcases the trade-off between risk and reward in the financial markets.
By consciously choosing to increase risk, you expose yourself to the potential for greater profits. It’s important to assess your risk tolerance, financial goals, and market conditions before making such decisions. While higher returns can be enticing, it’s crucial to carefully manage your portfolio and employ effective risk management strategies to protect your capital.
Remember that trading involves inherent uncertainties, and past performance is not indicative of future results. Analyzing historical data can provide insights, but it does not guarantee similar outcomes in the future.
At Ladon, we strive to provide our clients with the necessary tools, resources, and support to make informed decisions based on their unique risk preferences and investment objectives. We encourage you to work closely with our team and leverage our expertise to optimize your trading strategies and achieve your financial goals.
Our dedicated team is here to assist you every step of the way, ensuring that your trading experience is both rewarding and secure.
Please note that actual trading results may vary, and it is essential to conduct a thorough analysis and consult with professionals before making any investment decisions
