Explainer, in Risk & Portfolio Construction
Drawdown
At time t, drawdown is 1 − B_t / max(B_0…B_t), where B_t is bankroll. Maximum drawdown is the worst value over the sample. Drawdown is a path-dependent statistic — it depends on the order of returns, not just their distribution — which is why two strategies with the same Sharpe can have very different drawdown experiences.
2 questions. Published May 10, 2026. By AI Fin Hub Research.
Definition
Drawdown
At time t, drawdown is 1 − B_t / max(B_0…B_t), where B_t is bankroll. Maximum drawdown is the worst value over the sample. Drawdown is a path-dependent statistic — it depends on the order of returns, not just their distribution — which is why two strategies with the same Sharpe can have very different drawdown experiences.
Why it matters
Drawdown is the survivability metric. A 50% drawdown requires a 100% return to recover; a 75% drawdown requires 300%. Most allocators redeem capital well before that. Risk budgets, leverage limits, and circuit breakers are usually written against drawdown, not volatility.
How it works
Compute running maximum equity, then 1 − current_equity / running_max. Track three things: max drawdown, time in drawdown, and time to recovery. Strategies that look similar on max drawdown can differ by years on time-to-recovery, which is the variable that actually fires investor redemptions.
Example
Two strategies, same max drawdown
Strategy A max drawdown
25%
Strategy A time in drawdown
8 months
Strategy B max drawdown
25%
Strategy B time in drawdown
31 months
Same headline number, very different lived experience. Strategy B is the one that triggers redemptions.
Key takeaways
Recovery is asymmetric: a 50% drawdown needs a 100% return to break even.
Max drawdown is a single number; time-in-drawdown and time-to-recovery describe the actual investor experience.
Drawdown is path-dependent — same return distribution, different sequences, different drawdown.
Related terms
Run the numbers next
- Calculators Drawdown-Recovery Markov Simulator
Time to recover from an N% drawdown given monthly Sharpe + skew + kurtosis. Cornish-Fisher Monte Carlo, percentile distribution of recovery months.
- Calculators Kelly Criterion Calculator
Size positions with full, half, quarter, or eighth Kelly and stress-test the choice with a drawdown Monte Carlo simulator. Client-side. Private by default.
- Calculators Returns Distribution Analyzer
Paste a returns CSV. Histogram, normal QQ plot, skewness, excess kurtosis, Jarque-Bera test, tail-weight index. See why Sharpe alone misleads.
Questions people ask next
Why is recovery asymmetric?
Because percentage gains and losses don't compose. Lose 50% and you're at 0.5x. To get back to 1.0x you need a 100% gain on the remaining capital. Lose 75% and you need a 300% gain. The deeper the drawdown, the more disproportionate the recovery.
Is max drawdown enough to compare strategies?
No. Two strategies with identical max drawdown can have wildly different time-in-drawdown and recovery profiles. A strategy that draws down 25% and recovers in 6 months is operationally different from one that draws down 25% and stays underwater for 3 years.
Keep the topic connected
- Learn Volatility
Volatility as the standard deviation of returns: realized vs implied, the annualization gotcha, and why volatility-of-volatility matters.
- Learn Value at Risk (VaR)
Value at Risk: the loss threshold you'll exceed with probability α. Why historical VaR is brittle and what it doesn't tell you about the tail.