Capital Drawdown is generally referred to as how much amount of an investment or trading account is gone down from the peak or the actual of the investment before it comes back to the initial amount or the peak. For the beginner or for the pro-trader who start’s the trade should define the loss he will make in the total invested capital for that trade means Risk per Trade should be define. Drawdown is usually referred in terms of percentage as the difference of the amount from between the peak to the drawdown amount.

How Capital Drawdown is useful?

This drawdown is useful for every asset that includes individual stocks or sectors. However, it terms as the most valuable measurement for portfolio risk. The higher the drawdown the higher risk factor for vanishing the investment capital. If an individual is continually losing its investment capital then it starts to lose its motivation for continuing investment in the stock market.

It can also affect the future if the trades continuing make losses in the market. It’s better to get full knowledge about the drawdown before investing than is making a loss in the live market and thereby understand the concept beforehand. Therefore, capital drawdown is considered to be a risk factor for trading or investing in the market.

Things which is necessary to keep in mind before and while doing the trading

Every trader must need a unique Strategies in which they need to work in the stock market and the complete trader becomes successful in which 10% contribution is of the unique system that he worked upon and the rest 90% contribution is of risk management. The traders who do not define the risk management and do the trading in the stock market are 90% of the trader who makes a loss in the market.
If you define your capital drawdown up to 25% and if you hit the capital drawdown in 1 year then you should stop the trading for 1 year. Every trade is different from one another and not a single trade should affect another trade and risk per trade should be defined. Mostly 1% or 2% of the invested capital should be accountable for the risk per trade.

If in case you invest 100,000 Rs for trading then define the risk per trade that is 1% of the total invested capital is 1000 and the reward should in the ratio of 1:3 so define the reward of Rs 3000 for per trade. If you select 25% as your capital drawdown then you should think that you will make 25,000 Rs as a loss. If you trade for 25 trades and earn profits from it then you will earn 75,000 (25 shares X 3000 reward) and if all the rest of the 75 trades goes wrong then you will reach your break even point at 25% accuracy and only other brokerage fees will be charged. You just need 30% accuracy in the stock market to be a winner in the market.

Example for Capital Drawdown

we are taking an example of XYZ Company that is trading in the stock exchange. Assuming that the total invested capital for trading in that company is 100,000. Firstly you should define the right entry point, stop loss and right exit point. You need to define how much shares you can buy or sell when you use your capital. The things that should be pre-defined will be presented in the below table:

Long Trades ( Buy Trade )  
   
Trading Capital 100000.00
Percentage of capital at risk 1.00
Entry level 1100.00
Stop loss level 1085.00
Exit level 1130.00
   
Number shares to buy 66.67
Risk per share 15.00
Amount at risk 1000.00
Total trade value 73333.33
Reward per share 30.00
Profit at exit 2000.00
Reward: Risk 2.00

In the above table, it is for a buy trade as you can see that many things should be pre-defined before making the trades and always pre-plan things in the previous day because during the market hours you just need to execute the plan.

Formula’s for Trading

  • Total Amount at risk = Total Trading Capital X Percentage of Capital at risk/ 100
  • Risk Per Share = Entry Level – Stop Loss Level
  • Numbers of shares to buy = Amount at risk/ Risk per share
  •  Total Trade value = Number’s of shares to buy X Entry level
  • Reward Per share = Exit Level – Entry level
  • Profit at exit = Reward per share X Number’s of shares to buy
  •  Reward : Risk = Reward per share/ Risk per share

And for the same company if the trader goes for a sell trade then, the below table shows the trading norms that is need to define before the trade.

Short Trades ( Sell Trade )
   
Trading Capital 100000.00
Percentage of capital at risk 1.00
Entry level 1100.00
Stop loss level 1115.00
Exit level 1085.00
   
Number shares to short sell 66.67
Risk per share 15.00
Amount at risk 1000.00
Total trade value 73333.33
Reward per share 15.00
Profit at exit 1000.00
Reward : Risk 1.00

Every formula is same as above we had for the buy trades and for the trading in the stock market you need to define the risk that can be taken by you. Risk Management is the main key to save you from the profits and in the Trading Fuel; we had already uploaded the things that are necessary for Risk management. So, for understanding what is Risk management and how to use in the trades is perfectly explained on that.

So, it is advisable to select the risk factor firstly and make a mindset that a % of the amount will be lost in the market and for the rest of the capital if you invest wisely you will surely make the amount invested will end in making profits for you. As it is difficult to predict the stock prices or the direction of the stock prices. So, we should focus on the thing that we can control and one of it is risk management. Capital drawdown is the thing that can be predict in the stock market.

About us

We at Trading Fuel already wrote the various blogs for risk management and various factors that affect the stock market. We had also uploaded 7 secrets mantra to be a winner in the stock market and you must learn that blog in order to make profits in the market.  It will be beneficial for you as it is free of cost and we just provide every blog just for the educational purpose. After reading the blog and if you are just beginner in the market and firstly define your risk per trade and then the amount that is defined for the investment. We are regularly updating our blog site by uploading more and more blogs on the different sections of the stock market.

Author

Prashant Raut is a successful professional stock market trader. He is an expert in understanding and analyzing technical charts. With his 8 years of experience and expertise, he delivers webinars on stock market concepts. He also bags the ‘Golden Book of World Record’ for having the highest number of people attending his webinar on share trading.