Maximum Drawdown -- Measuring Peak-to-Trough Losses

Maximum drawdown captures the worst-case loss an investor would have experienced if they bought at the peak and measured at the trough. It is expressed as a negative percentage:

Max Drawdown = (Trough Value - Peak Value) / Peak Value

A max drawdown of -40% means the portfolio fell 40% from its highest point before beginning to recover.

Why Max Drawdown Matters More Than Volatility

Volatility is symmetric -- it counts good days and bad days equally. Max drawdown is entirely about the bad: how deep did the hole get? This is the metric that determines whether an investor actually stays invested during a crisis or panics and sells near the bottom.

A portfolio with a -60% max drawdown requires a +150% gain just to return to its previous peak. Avoiding deep drawdowns is often more valuable to long-term compound returns than capturing every upside move.

Interpreting Max Drawdown

• 0% to -10%: Low -- typical of conservative or hedged strategies.
• -10% to -25%: Moderate -- consistent with a typical equity portfolio in a correction.
• -25% to -50%: High -- territory of concentrated portfolios or bear markets.
• Below -50%: Severe -- indicates either a highly concentrated position or catastrophic loss events.

Max drawdown should always be viewed alongside the recovery time: how long did it take to return to the previous peak?