What is Drawdown in Forex Trading and How to avoid it

Picture of Arran Brough

Arran Brough

Arran has been a professional trader for over 4 years. He manages a portfolio of over $6 million and he focuses on achieving small consistent gains over time. Throughout this time he has built a community of like minded traders where he helps them to make it in trading. He Loves surfing and travelling and this is what made him learn trading so that he could travel the world and earn money anywhere.

Drawdown in forex trading refers to the amount of money that your trade or account is currently down. In the context of a trade, naturally it will not always go in the direction you want immediately and that period while the trade is negative is called drawdown.

Share Post:

drawdown forex chart

What is Drawdown?

In Forex trading you will often hear the term drawdown, this refers to the amount of money that your trade or account is currently down. In the context of a trade, naturally it will not always go in the direction you want immediately and that period while the trade is negative is called drawdown. Your trade will be in drawdown until it either hits the stop loss and closes or until it goes back in the direction you want and is now in profit. When we refer to an account being in drawdown we are referring to the total amount the account is down from its starting balance.

Why does Drawdown matter?

Drawdown in terms of an individual trade is often expected and it doesn’t matter at all as long as there is a hard stoploss in place for that trade so that the drawdown can never get out of hand. When trading funded accounts or prop firms, they will often have rules such as no more then 5% drawdown per day and no more then 10% overall. This is to prevent traders from performing bad trading practices and leaving trades open until they one day come back into profit.

How to avoid Drawdown?

Use A Stop Loss

The most important and simplest way to avoid drawdown is by having a stop loss on every trade you place and ensuring you have calculated the correct risk per trade. I always ensure I only risk 1% per trade on funded accounts which means I could lose 10 trades in a row before blowing my funded account. In the last 3 years my longest loss streak has been 3 trades, so I know I am safe using this strategy and can ensure I won’t break the drawdown limits.

Don’t over trade

Another key factor to avoiding drawdown is ensuring you aren’t over trading. By opening 3 or 4 trades at once all with 1% risk you are massively increasing the likelihood of going into more drawdown. This is something I see very commonly with new traders is they feel the need to open loads of trades to make more money. However, this is the opposite of what professional traders do. One trade a week that wins is far greater than 10 trades a day.

Follow one strategy/signal provider

This point is not spoken about enough as it is so essential for avoiding drawdown. When following signal providers, you should know every trade they have ever placed and be able to see what the most about of
losses they have had in a row is. Let’s say there’s is 3, that means you can be confident when following them alone you won’t break any Prop firm drawdown rules. However, if you are following 3⁄4 providers. The chance of them all placing one losing trade is much higher, which could instantly put you 4% in drawdown. If you want to follow multiple traders, the best thing to do is dedicate a different account to each trader. That way If they all have a loss each of your accounts is only 1% down rather than one of your accounts being nearly blown! This theory is the same for strategies.

Improve your win rate.

This one of course sounds obvious but there’s easy ways to do this and I don’t just mean from spending hundreds of hours back testing. If your strategy works on a very high-Risk reward ratio then you are way more likely to have a lower win rate. Of course, you are able to have a lower win rate and be profitable if your risk reward is high enough. However, this may cause your account to lose at least 3 or 4 trades before getting that big winning trade that puts you into profit. I know when I started trading it really helped me to have a lower Risk reward and a higher win rate as that gave me the confidence when placing the trade. Of course, this one Is personal, and if you have a strategy that works I’m not suggesting you should change it.

How to get out of Drawdown?

If you are on a funded account and you are close to breaking the overall drawdown limits, here’s what I did to help a new member of 1st2Notify get his account from 8% down to a cashout on that account.

1. Reduced risk per trade – He only had 2% left until his account would be blown so we couldn’t risk placing 1% trades anymore. We started at 0.5% risk per trade which meant if we didn’t lose 4 trades in a row we could start to build his account.

2. Secondly, he was massively over trading and following lots of different signal groups. As I mentioned earlier this doesn’t work as the chance of a few people taking 1 loss is quite high. So I said for 6 weeks you’re just going to follow me.

3. One we had his account back up to only 4% in drawdown we could start increasing the risk again. We moved his risk per trade to 0.75% which mean he was able to make a little more and progress faster, of course this did come with more risk too.

4. After 5 weeks we had him bac to 1% drawdown, and we increased the risk per trade to 1% and he was able to make that final 1% on the next trade.

Overall, the key message here is slow and steady always wins the race. Although it may be boring, and I understand the desire to get funded tomorrow to be successful you have to remove any time limit from your brain. It took me 5 months to pass my first FTMO 100k challenge, but I still have that account to this day. You need a 2-year outlook rather than a get rich quick mentality, the sooner you understand that the sooner you will start being consistently profitable.

I hope this article helps, if you are struggling with drawdown reach out to us for a specific advice, furthermore we can also manage your Forex Account to get you back on winning ways.

More Blogs

Forex Trading Scalping Strategies: Best Tips and Indicators

The Ultimate Guide to Trading Signals: Enhance Your Trading Success

Exploring Forex and Crypto Trading: Similarities and Differences

How AI is changing the Forex Market in 2024

How to create a Forex Trading Bot without programming (2024)

How to Make Money Through Forex & Crypto Trading as A Student