Reduce Your Drawdown

By: Azouz Gmach | Posted: 20th December 2005

Drawdown is the enemy of all investors. Drawdown can reduce some or all your gains and even make you loose money.
The worse thing i experienced as a position trader is when it take you some months to make for example 30% gain, then in one week or two a big drop happen in your positions and you loose all theses gains.

Traders or investors that are afraid of drawndown like me can use some techniques to reduce and limit it :

- Use of appropriate money managements techniques, can be helpful but it will not reduce maximum drawdown alot.
- Use of differents profitable trading strategy to diverisfy. I think this is the best way to reduce drawdown.
I am using 5 trading strategy with the one that have the small maximum drawdown
show -20%.
When theses five trading strategy are combinated, the maximum drawdown show only -12%.
- Hedge your portfolio with option,future : If you portfolio is coorelated with an index, sector or industry, even 0.3 corrolation is enought, you can hedge your portfolio by two main ways :
I will take example that will cover the most traders problem (coorolation with index)
1- Buy a put of the index: you must learn well how to trade option.
You must choose an optimal expiration day, a put in or out of the money...
Its not very easy and you need probably some softwares or online tools that help you simulate put variations depending on underlying security changes or days left until expiratYouion changes.
2- Sell an index future : easy to implement it, but the problem here is that one future of russell2000 for example worth 69 000$, you can sell it of course for 690$ but when using future for covering, your portfolio must worth alot of $.
Covering portfolio by option or index may reduce alot your maximum drawdown, but it also reduce alot your gains.

You can combine all theses techniques, choose one of them or don't use any one.
Its all depends on how much risk you are willing to accept.

Azouz
Trading Systems Blog
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Tags: variations, choose one, online tools, risk, investors, theses, loose money, profitable trading, trading strategy