Losses are part of trading. However, they can have outsized impacts on our return profiles.
1. On the Left Hand Side. Take a look at Portfolio 1,2, & 3. What do you notice? -Focus on the Average Returns versus Ending Value and Compound Annual Growth Rate (CAGR) -Portfolio 1 significantly outperformed Portfolio 2 with the ONLY difference being Year 3, where Portfolio 1 returned just 2%. How? Consistent positive returns. -Portfolio 1 has a LOWER average return than Portfolio 3, yet it made MORE money and had a better CAGR. How? Reduction in drawdowns.
2. On the Right Hand Side. What kind of positive returns are required to get back to break even from losses? -Notice how drawdowns require an increasingly large positive return to get back to NEUTRAL. -A 25% drawdown needs a 33.3% positive return just to land at breakeven. -We can be successful traders by creating better returns, avoiding drawdowns, or a combination of BOTH.
