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Historical Drawdown BullGlobe

Historical Drawdown

Drawdown

Drawdown is a measure of downside risk. It is a simple metric that tells us (on a percentage basis) how much an investment declined from its peak (its highest value) to its trough (its lowest value).

By analyzing an asset’s drawdown history we can see how it has been affected by economic downturns, which can help us understand what to anticipate in the next downturn. It can also be helpful to compare various investments’ historical risks. It is also used to measure the inherent investment risk of an investment.

As we have seen, drawdown is the percentage difference from any peak to its subsequent trough. But people tend to pay more attention to the maximum drawdown, which is the largest drawdown of an investment’s lifetime.

Drawdowns can be measured by their depth and by their length. If compared with other investments, by analyzing the depth you can identify the less risky options simply by seeing which ones decreased the least or even increased. This relates to the asset correlation topic, which we will cover in future segments. By analyzing the length, you can also identify the possibly less risky options by seeing which ones picked up faster.

A typical drawdown graph displays the history of percentage losses from the previous highest points. In other words, it shows how far the value has fallen from its previous high point. From the drawdown chart, we can get a sense of what assets are inherently more volatile and have historically suffered more in economic downturns. The blue line represents an asset and the further down it moves, the higher the downside volatility (bad risk).

It is important to note that a drawdown is still in place as long as the asset price remains below the previous peak. The end of a drawdown (a trough) is not registered until the value is fully recovered. In the chart, we can see a trough was identified at $55 in 2018 because the value fully recovered past its previous peak of 2015, now being at $72.

The above is a real, interactive drawdown chart that compares the metric among the assets in a portfolio.

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