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DRAWDOWN MISCONCEPTION
The experts have always stressed, that before you begin trading any system or set of procedures that you have purchased, that one of the first things you should find out about is the drawdown that the system has undergone in the past. This is so that you can be prepared by making sure that your starting equity is sufficient to handle whatever drawdown is in store for you.
The standard definition of drawdown is as follows:
Drawdown: The magnitude of a decline in account value, either in percentage or dollar terms, as measured from peak to subsequent trough. For example, if a trader's account increased in value from $10,000 to $20,000, then dropped to $15,000, then increased again to $25,000, that trader would have had a maximum drawdown of $5,000 (incurred when the account declined from $20,000 to $15,000.
This approach presupposes that you will need to allow for this loss when determining your initial equity balance in your trading account.
I believe that a better plan of attack on your part in regards to determining your starting equity would be to determine how much the drawdown actually affects your starting equity. This could mean a considerable difference in dollar terms. So, you should know “The Drawdown To Your Starting Equity”.
For example, in. my Minor Trend Trading System, the maximum drawdown as defined above is, to date – and over 5 years, the sum of $31,010. On the other hand, and by comparison, the drawdown to the starting equity works out to be exactly $0.00 dollars. Quite a difference wouldn’t you say? In other words, the drawdown over 5 years, did not affect the starting account balance at all. So why allow that extra $31,010 in your determination of how much you should start with?
Many traders consider that if you lose half or 50% of your starting equity, you should either shelve the system, hold it in abeyance until the market changes in your favor (paper trade), or make positive changes. But if you haven’t lost any of your own money trading this particular system, perhaps you aren’t doing as badly as you think – so why stop trading it?
Just a different way of looking at a commonly accepted requirement.
GOOD LUCK AND GOOD TRADINGBACK
R
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