In turn, the deepest peak-to-trough decline can be compared with the equivalent for other markets to assess relative risk profiles.īut as Olaf Korn and company point out, there are more ambitious ways to evaluate drawdown. But the question is how to quantify the data? One could start with looking at the maximum drawdown, which in the chart above is a bit more than -55%. For example, here's how the US stock market's drawdown history stacks up since 2005 via the S&P 500.Īs a simple, intuitive measure of risk, reviewing drawdown in this way has obvious appeal. After all, drawdown is often described as a simple peak-to-trough calculation. In conclusion, our study shows that the choice of an adequate drawdown measure is vital to the assessment of investments because different measures emphasize different aspects of risk.įor the casual investor, the notion that there's more than one measure of drawdown may be surprising. However, the ability to detect skill does not easily improve performance ratios where drawdown measures serve as the denominator. Our research also shows that all drawdown measures can (to some degree) discriminate between skillful and unskillful portfolio managers, but differ in terms of accuracy. They go on to advise in the study's abstract:Ĭonceptual differences between drawdown measures translate into different rankings of portfolios, which we document in a simulation study. "Over the years, a diverse range of drawdown measures has evolved to guide asset management," advise the authors of "Drawdown Measures: Are They All the Same?", a recent working paper by Olaf Korn (University of Goettingen) and two co-authors. A new research paper reminds, however, that drawdown comes in several flavors and so investors need to think carefully when deploying this metric in the quest to identify genuinely skillful portfolio results. But any short list of robust metrics surely deserves to include drawdown, which offers a powerful combination of relevance and simplicity. Indeed, you can find dictionaries that wade through an ever-lengthening list of indicators. The possibilities for quantifying risk in portfolio analytics seems to be limited only by the imagination of researchers.
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