How Drawdown Rules Actually Work (With Examples
How Drawdown Rules Actually Work (With Examples)
Drawdown rules are one of the most misunderstood parts of prop trading.
Many traders don’t fail because they lose money — they fail because they don’t understand how drawdown is calculated. This guide explains drawdown rules clearly, with simple examples, so you know exactly what you’re managing.
What Is a Drawdown in Prop Trading?
A drawdown is the maximum amount an account is allowed to lose before it is closed.
It exists to protect firm capital and to ensure traders manage risk responsibly. Once a drawdown limit is breached, the evaluation or funded account ends, regardless of prior profits.
Fixed Drawdown vs Trailing Drawdown
There are two common types of drawdown:
A fixed drawdown stays the same regardless of profits.
A trailing drawdown moves up as the account reaches new highs.
Understanding which one applies is critical.
Example 1: Fixed Drawdown
Imagine an account with:
- Starting balance: $100,000
- Maximum drawdown: $10,000
This means the account must stay above $90,000 at all times.
If the balance drops to $89,999. The account fails, even if it was previously profitable.
Example 2: Trailing Drawdown
Now imagine a trailing drawdown:
- Starting balance: $100,000
- Trailing drawdown: $10,000
If the account grows to $105,000, the drawdown “trails” upward and now sits at $95,000.
If the balance later falls to $94,999, the account fails even though it’s still above the starting balance.
This is where many traders get caught off guard.
Why Traders Fail Drawdown Rules
Most drawdown violations happen because traders:
- Increase risk after profits
- Assume profits create “free margin”
- Don’t monitor drawdown daily
- Trade emotionally after losses
Drawdown rules don’t forgive confidence, they punish complacency.
How Professional Traders Manage Drawdown
Professional traders treat drawdown as the most important number on the account.
They:
- Track drawdown before placing trades
- Reduce size after equity peaks
- Stop trading early during losing sessions
- Avoid recovery trading
Their goal is to stay far away from the limit at all times.
Drawdown Is a Risk Tool, Not a Trap
Drawdown rules are not designed to make traders fail.
They exist to:
- Prevent catastrophic losses
- Encourage consistency
- Force risk discipline
Traders who respect drawdown often find trading becomes calmer and more controlled.
Final Thoughts
Understanding drawdown rules changes how traders behave.
When you know exactly where the line is, you stop playing near it. In prop trading, survival is everything and drawdown awareness is the difference between staying funded and starting over.
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