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Maximum Drawdown

The largest peak-to-trough loss before recovery — the worst realized loss.

Maximum drawdown (MDD) measures pain: the biggest percentage drop from a portfolio's peak to its lowest point before recovering to a new high. A 30% MDD means at some point, your portfolio fell 30% from its peak. Unlike volatility (which treats upside and downside symmetrically), MDD captures the actual loss experience investors endure. For example, the S&P 500's MDD in 2008 was ~57% (peak Oct 2007 to trough Mar 2009). Recovery time matters: that drawdown took 4+ years to recover. Behavioral research shows MDD drives redemptions more than volatility — a 20% MDD feels worse than 15% annualized vol. Hedge funds and alternatives often target low MDD (10-15%) to keep clients invested through downturns.

Formula
Max DD=max⁡t∈[0,T](Peakt−TroughtPeakt)\text{Max DD} = \max_{t \in [0,T]} \left( \frac{\text{Peak}_t - \text{Trough}_t}{\text{Peak}_t} \right)

Related Terms

Calmar Ratio

Annualized return divided by maximum drawdown.

Value at Risk (VaR)

The maximum expected loss at a given confidence level — but doesn't tell you how bad the tail is.

Portfolio Volatility

Standard deviation of portfolio returns — total risk including diversification effects.