Drawdown and Recovery: What to Cut and What to Protect When Your Equity Curve Drops

In risk-reward,
position-sizing,
atr-sizing, and
max-loss, we discussed:

1R (risk per trade),
position sizing,
daily and weekly max loss rules.

In this article, we look at the concept where all of this
shows up visually as a curve:
drawdown.

1. What is drawdown?

In simple terms, drawdown is:

How far your account has fallen
from its highest point.

Example:

your account reaches 10,000 USD,
then drops to 8,000 USD.

The drawdown is:

in dollars: 2,000 USD
in percentage: 20% (2,000 ÷ 10,000)

Traders usually talk about percentage drawdown
(−10%, −20%, −30%…) to compare:

how volatile a system is, and
how much pain it can cause.

The deepest drop over a period is called:

Maximum Drawdown (MDD).

2. Why drawdown matters: math + psychology

Drawdown matters for two main reasons.

Math: recovery gets harder as drawdown deepens
- after a −10% loss, you need about +11.1% to get back to breakeven,
- −20% → +25%,
- −30% → +42.9%,
- −50% → +100%.

The key is:

The deeper the loss,
the more asymmetrical the recovery becomes.

Psychology: drawdowns are where rules get broken
- losing streaks pile up,
- your equity curve slopes down,

and it becomes easier to think:

“Just this once I’ll go big,”
“This one looks so obvious, I have to size up.”

So drawdown is:

A phase where both your account balance
and your mental state are under pressure.

Managing drawdown is not just:

“Let’s lose less,”

but rather:

“How much can I realistically tolerate,
and how will I behave as we move through that range?”

3. Thinking about your system’s “natural” drawdown

Every system with:

a win rate,
an average R/R,
and clear stop rules

will have some natural level of drawdown,
even when it’s working fine.

Example:

Trend-following system
win rate ~40%,
average win = 2R,
average loss = 1R.

Then:

3–5 losses in a row,
or a −5R to −10R drawdown

is statistically very possible,
even in a healthy system.

So when you set drawdown limits, it helps to:

Look at backtests and real trade logs.
Ask: “When the system is working,
how big are the typical drawdowns?”
Set your personal max drawdown limit
a bit wider than that natural range.

Example:
If backtests show most drawdowns within −10R,
you might set your personal max acceptable drawdown
around −12R to −15R.

4. Planning “step-down” actions by drawdown level

Many traders manage drawdown using step-down rules.

For example, measured as a percentage of equity:

−5%
−10%
−15%
−20% or worse

At each level you can predefine actions like:

reduce risk,
change trading mode,
take a break.

4-1. Example: step-down drawdown plan

Assume:

account: 10,000 USD,
1R = 1% = 100 USD.

Stage 1: −5% (−5R)
- Actions:
  - review recent trades in your log,
  - check if entries actually followed system rules,
  - double-check position sizing
    from position-sizing.
- Risk:
  - keep 1R the same for now,
  - but trade fewer setups (higher selectivity).
Stage 2: −10% (−10R)
- Actions:
  - take at least one or two days off from live trading,
  - check if your system from strategy/***
    still fits current market conditions.
- Risk:
  - cut 1R to 50–70% of its normal size
    (e.g. 1% → 0.5–0.7%).
Stage 3: −15% to −20%
- Actions:
  - switch to demo / tiny size temporarily,
  - review your responses to losses,
    as we’ll discuss in loss-psychology.
- Risk:
  - do not quickly jump back
    to original risk levels without clear improvement.

The exact numbers are personal.
What matters is:

As drawdown deepens,
your reaction should be “reduce risk,”
not “swing harder.”

5. Common mistakes during drawdown

5-1. Going into revenge mode with no brakes

after one or two losses,
you ignore your daily/weekly max loss rules
from max-loss,
and increase both:
- number of trades,
- and position sizes.

Often the real problem here is not the system,
but that:

Your risk and behavior have drifted
far away from the plan.

5-2. Constantly switching strategies in every drawdown

3 losses → abandon Strategy A → jump to B,
another few losses → jump to C…

Result:

no strategy gets enough sample size,
you’re always living in the worst phase:
early adaptation.

You need to first decide whether:

it’s a system problem, or
a risk/discipline problem.

The response should be different.

5-3. Having no recovery plan, only “back to breakeven” hope

Thinking:

“Once I get back to my starting balance, I’ll stop,”
“It should bounce back soon.”

Without specific rules, you can’t:

distinguish a normal drawdown
from a dangerous account decline.

You need clear lines like:
“If equity hits X, I must reduce or stop.”

6. Principles for recovery during drawdown

There are two broad approaches:

Keep risk the same
and let the system recover.
Reduce risk
and climb out more slowly but safely.

For many individual traders:

option 2 (reduced risk during recovery)
is more realistic, because it:
- lowers emotional pressure,
- reduces the chance of panic decisions.

When planning recovery,
priority should be:

Not “how fast can I get my money back,”
but “how do I avoid further serious damage
while recovering?”

7. Questions to audit your drawdown plan

Here are some useful questions
to check your own setup:

“On my current account,
what level of drawdown
can I realistically tolerate
without completely losing my discipline?”
“From backtests and real trades,
what is the natural drawdown range
for my system(s)?”
“At −5%, −10%, −15% drawdown,
what exactly will I reduce
(size / number of trades),
and what will I absolutely protect
(rules / rest)?”
“Do my drawdown rules align with
daily/weekly max loss rules from
max-loss,
or do they conflict?”
“During recovery,
will I keep risk the same
or deliberately reduce it,
and under what conditions
will I step back up?”

Drawdown management is:

Not the art of avoiding all losses,
but the art of making losses survivable.

If you:

build your R framework via
risk-reward,
size positions with
position-sizing
and atr-sizing,
cap daily and weekly losses with
max-loss,

and then add a drawdown and recovery plan
as outlined here,

you’ll be much better prepared
for the long, painful losing streaks
that every trader meets sooner or later.