Ever heard that if you don’t sell your crypto, you aren’t losing money (even when prices dip)? This is technically true but if you witness your investment portfolio taking the dip, the waiting period for it to rise again could seem like a purgatory. Hence, this article is to help you understand drawdown in order to help you cruise through the rollercoaster ride of trading and investing crypto.
According to Investopedia, a drawdown is a peak-to-trough decline during a specific period for an investment, trading account or fund. In very simple words, let’s say you start with a $10,000 investment in an account, and the fund drops to $9,000, before going back up to $10,000, it would mean that your trading account has just experienced a 10% drawdown.
Alternatively, it could also be that you started investing with $100 following your strategy A and that after a series of mostly winning trades you arrive at $150. Very good results, a 50% increase!
Subsequently, after a series of losses, you find yourself at $125 before it goes back up to finally exceed $150, you have regained your capital level before the series of losses. The difference in percentage between the lowest level reached and your capital level is the drawdown. In the above scenario, the drawdown is 16.6%.
Importance of drawdown in investing and trading
In any investments that you plan to get into, it is important to understand what is sitting on the other side of the fence. Through maximum drawdown, you can assess the risk level and decide if the particular investment is acceptable to you. After all, different traders and investors have different levels of risk tolerance and drawdown helps you to understand and manage that.
With a good understanding of maximum drawdown, you will be able to better manage and move your funds around and not risk getting caught in pressure selling down the road.
For the traders who are developing their own strategies, either manually or with the help of an algorithm, the drawdown is also an excellent tool because it allows you to classify their different strategies according to their risk.
Be careful though, this is still a tool and as with everything in trading, past results do not guarantee the future, it just gives you an idea of what you can expect when using a given strategy.
How to reduce drawdown?
Needless to say, a good understanding of your risk tolerance or threshold is important. In fact, it goes hand in hand with drawdown—for some, a 10% drawdown will be too much, while for others, 25% is the way to go.
If a strategy has been properly optimized, it will be difficult to reduce the expected drawdown further. To reduce your overall drawdown, the solution will be diversification – to spread your funds across different products and investment tools.
For instance, if you are utilizing trading bots to help you trade, instead of allocating all your funds into one bot, it will be a wise move to split it across two or three bots. This way, if one bot under performs, the other bots may help to increase the chances of success. While we are at that, don’t limit yourself to just trading bots. In crypto, there are many ways in which you can make your money work harder for you.
At Superbots, its invest, stake and play model is helping traders and investors maximize their gains and opportunities in the crypto market. Through algorithmic trading on DeFi, you have the option to have various trading bots trade crypto for you on automation, with full privacy and security. Its ETH Infinity bot (BUSD/ETH) has been performing phenomenally since January 2021.
*Performance result of ETH Infinity Bot*
Superbots also provide you with the option of staking UBXT, the token that powers the Superbots ecosystem. The last and most exciting part – keep a look out for the launch of the Superbots NFT and Metaverse that will be coming very soon! Hint: it won’t be just another NFT collectible!
It’s normal to fear the unknown. However, with a good understanding of drawdown, the fear level will be greatly reduced as it will enable you to make calculated decisions based on data. You will be able to navigate the trading and investing sphere with more confidence, and be better at managing risk and plan your move of diversification. The best part, it will allow you to remain calm even when your investment portfolio dips for the interim or when the crypto market goes through a sharp correction. Either way, you will not be pressured into panic sell-off.