Drawdown
The peak-to-trough decline in portfolio value, stated as a percentage of the prior peak.
Drawdown measures how much value is lost from a prior high before a new high is set. `DDₜ = Vₜ / max(V₀..Vₜ) − 1`. "Max drawdown" is the worst such value over the full sample.
Why it matters. Volatility describes dispersion; drawdown describes *pain*. A 50% drawdown requires a 100% subsequent return to get back to even. For any portfolio, the drawdown profile — how deep, how long, how frequent — governs whether real humans actually stick with the strategy during losing stretches.
Pitfalls. Compounding is asymmetric, so comparing arithmetic returns without drawdown context hides risk. Two strategies with identical CAGR can have drastically different drawdown profiles. When backtesting, weight drawdown alongside Sharpe and CAGR to build strategies you'll actually hold.
See it applied
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