Proprietary trading firms, also known as prop firms, provide traders with capital at affordable rates. They offer education, resources, and support, as well as a community of traders for news, networking, and learning. However, prop trading presents challenges such as drawdown limits and risk management. Drawdown is an important metric for traders, especially when facing challenges from prop firms. It can have a great impact on a trader’s career.
In this blog, we’ll talk about the balanced-based drawdown approach, which is changing risk limits for prop firms and traders.
What is a Balance-based Drawdown?
Balance-based drawdown is a concept in forex trading. It evaluates the risk and potential losses of a trading account. It measures the maximum decline in the account’s balance from its peak value, typically as a percentage. A balance-based drawdown gives traders insights into the potential loss they might face in a specific trading period.
Key components of balance-based drawdown:
- Balance: The total funds in a trading account. Including the initial deposit and any profits or losses resulting from trades.
- Drawdown: It calculates the decrease in the account balance from its highest to lowest point during a certain time, shown as a percentage. This helps us understand how much the balance dropped in that period.
- Balance-Based Drawdown: Drawdown is measured as a percentage of the highest balance in the trading account. It helps understand the risk of trading strategies and potential losses.
How to calculate a balance-based drawdown:
Identify the highest value of the trading account balance during a specific time frame.
- Determine the lowest point the account balance reaches after the peak value.
- Calculate the difference between the highest balance and the lowest balance as a percentage of the highest balance. This percentage represents the balance-based drawdown.
Balance-based drawdown is important in forex trading risk management. It helps traders see the possible downsides of their strategies. They can then adjust to avoid losses and keep their capital safe.
Prop Firms With Balanced-Based Drawdown
| Proprietary Trading Firm | Balance-Based Drawdown |
|---|---|
| E8 Funding | E8 Evaluation:❌ E8 Track: ✅ |
| Alpha Capital Group | ✅ |
| AquaFunded | ❌ |
| Audacity Capital | Funded Trader Program: ✅ |
| Bespoke Funding | ✅ |
| Blue Guardian | ❌ |
| City Traders Imperium | Instant funding: ✅ Direct funding:✅ |
| Crypto Fund Trader | ❌ |
| Direct Funded Trader | ❌ |
| Fidelcrest | ❌ |
| Finotive Funding | ✅ |
| Forex Capital Funds | ✅ |
| Forex Prop Firm | ❌ |
| FTUK | ✅ |
| FTMO | ✅ |
| Funded Trading Plus | Master Trader Program: ✅ |
| FundedNext | ✅ |
| FunderPro | ❌ |
| Funding Pips | ❌ |
| Glow Node | ❌ |
| Goat Funded Trader | ❌ |
| Leveled Up Society | ❌ |
| Lux Trading Firm | ❌ |
| Ment Funding | ✅ |
| MyFlashFunding | ❌ |
| MyFundedFX | ❌ |
| RebelsFunding | ❌ |
| Smart Prop Trader | ❌ |
| Super Funded | ❌ |
| SurgeTrader | ❌ |
| The Funded Trader | Rapid challenge: ✅ Dragon Challenge: ✅ |
| The Trading Pit | ❌ |
| The5%ers | ❌ |
| Top One Trader | ❌ |
| TopTier Trader | Top Tier Challenge: ✅ |
| Trading Funds | ❌ |
| True Forex Funds | ❌ |
Risk Management and Profit-Sharing
Drawdown’s role in risk management is to restrict the capital lost compared to the trader’s total account value. Drawdowns are calculated as the percentage decline from a peak in equity to a trough. High drawdowns, if not managed well, can lead to ruin. They might force traders to stop trading or cause significant losses.
In prop firms, trading profits are shared between the trader and the firm based on a set ratio. This encourages traders to carefully manage risks since their income depends on their trading performance.
Drawdowns can affect a trader’s profit-sharing agreement negatively. In severe cases, they might even result in losing trading privileges. High drawdowns can lower returns and might make traders stop trading or cause significant losses.
Prop firms set limits on maximum drawdown and leverage ratio to manage risk and safeguard their capital. These limits aim to stop traders from taking too much risk and ensure that one trader’s losses don’t drain the firm’s capital.
Drawdown and Leverage
Leverage amplifies both returns and drawdowns. If leverage is doubled, the return can also double, but the drawdown will also double if positions are doubled per trade. This means that using leverage can lead to larger gains, but it also increases the risk of larger losses.
Drawdown Implications for Traders Using Leverage
Leverage can be beneficial when used with low drawdowns, as it allows traders to compound their returns from higher equity levels. However, high drawdowns can lead to ruin if they are not managed properly, as they can force traders to stop trading or lead to significant losses.
Proprietary trading firms often set limits on the maximum drawdown and leverage ratio to manage risk. These limits are designed to prevent traders from taking on excessive risk and to ensure that a single trader’s losses3 does not deplete the firm’s capital.
Drawdown Management Techniques
Drawdown management techniques and their implications for traders using leverage can be are as follows:
- Stop Losses
- Stop losses play a crucial role in drawdown management. They limit losses and prevent significant drawdowns.
- Traders can set stop-loss orders to exit trades at predetermined price levels and limit their losses. This helps them manage risk effectively.
- Setting stop losses at levels that accommodate market volatility is crucial. It ensures that losses are limited while allowing for some fluctuation.
- Position Sizing
- Position sizing determines the size of investments in each trade. It’s crucial for managing drawdowns effectively.
- Effective position sizing strategies can help traders manage drawdowns and minimize losses.
- Anti-martingale principles involve increasing position size after a winning trade and decreasing it after a losing trade. This helps manage drawdowns effectively.
