DrawDown and Maximum Draw-down

In business in order to make a profit a trader must learn how to manage risks. To make profits in trading you will need to learn about the various cfd risk management techniques discussed on this learn CFD Trading lesson web site.

When it comes to trading, the risks to be managed are potential losses. Using cfd money management rules will not only protect your trading account but also make you profitable in the long run.

Draw-down

As traders the number one risk is known as draw-down - this is the sum of money you have lost in your trading account on one cfd transaction.

If you have $10,000 capital and you make a loss in a single trade of $500, then your draw-down is $500 divided by $10,000 which is 5 % draw-down.

Maximum Draw-down

This is the total sum of money you've lost in your trading account before you begin making profitable trades. For examples if you have $10,000 capital and make five consecutive losing trades with a total of $1,500 trade loss before making 10 winning trades with a total of $4,000 profit. Then draw down is $1,500 divided by $10,000, which is 15 % maximum draw-down.

DrawDown is $442.82 (4.40%)

Max Draw-Down is $1,499.39 (13.56 %)

To learn how to generate the above reports using MT4 platform: Generate Reports on MT4 Guide

CFDs Money Management

The example displayed below shows the contrast between risking a small percent of your capital compared to risking a higher percentage. Good investment principles requires you as a not to risk more than 2 percent of your total trading account equity.

Percent Risk Technique

2% & 10% Risk Rule

There's a large difference between risking two percentage of your equity compared to risking 10% of your equity on a single transaction.

If you happened to go through a losing streak & lost only 20 trades in a row, you would have gone from a starting account balance of $50,000 to having only $6,750 left in your trading account if you risked 10 % on each trade position. You would have lost over 87.5% of your equity.

However, if you risked only 2% you would have still had $34,055 which is only a 32 % loss of your total account equity. This is why it's best to use the 2 percent risk management strategy

The difference between risking 2% & 10 % is that if you risked 2 % you'd still have $34,055 after 20 losing trades.

However, if you risked 10 % you'd only have $32,805 after only 5 losing trades that's less than what you would have if you risked only 2 % of your trading account and lost all 20 trades.

The point is you want to setup your rules so that when you do have a loss making period, you'll still have enough trading capital to trade the next time.

If you lost 87.5% of your trading capital you'd have to make 640% profit to get back to break even.

As compared to if you lost 32 % of your capital you would have to make 47% profit to go back to break even. To compare it with the examples 47 % is a lot easier to breakeven than 640 % is.

Chart below shows what percent you'd have to make to get back to break even if you were to lose a certain percentage of your trading capital.

Concept of Break-Even

Account Equity and Break-Even

At 50% drawdown, one would have to earn 100 % on their invested capital - a task accomplished by less than 5 % of all traders worldwide - just to break-even on an-accounta-trading-account with a 50% loss.

At 80% draw-down, one must quadruple their account equity just to take back to its original equity. This is what is called to "break-even" i.e. Go back to your initial account balance that you deposited.

The more you lose, the harder it is to make it back to your initial account size.

This is the reason why as a trader you should do everything you can to PROTECT your equity. Don't accept to lose more than 2 percent of your account equity on any 1 single trade transaction.

Cfd risk management is about only risking a small percentage of your trading capital in each trade transaction so that you can survive your losing streaks and avoid a large draw down on your account.

In CFD, traders use stop loss orders which are put in order to minimize losses. Controlling risks it involves putting a stop loss order after placing an order.

Effective Risk Management

Effective risk management requires controlling all the risks. One should create a clear cfd risk management system & a trading plan. To be in CFD Trading or in any other business you must make decisions involving some risk. All aspects should be measured to keep risk to a minimum & use the above tips on this guide.

Ask yourself? Some Tips

1. Can the risks to your investing activities be identified, what forms do they take? and are they clearly understood & planned for? All the risks should be taken care of in your CFD Trading plan.

2. Do you grade the risks faced by you when trading in a structured way? - Do you've a trading plan? - have you read about this topic which is extensively covered discussed here on this Web Site.

3. Do you know the maximum potential risk of each exposure for each transaction that you place?

4. Are decisions made on basis of reliable and timely data & based on a strategy or not? Have you read about trading systems here on this web site tutorial tutorials.

5. Are the risks big in relation to the turnover of your invested trading capital and what impact could they have on your profits margins & your margin requirements?

6. Over what time periods do the risks of your trade activities exist? - Do you hold trades long term or short term? what type of trader are you?

7. Are the exposures a one-off or are they recurring?

8. Do you know enough about the ways in which your CFD Trading risks can be reduced or hedged and what it would cost if you did not include these measures to reduce potential loss, & what impact it would make to any upside of your profit?

9. Have your rules been adequately addressed, to ensure that you make & keep your profits.