Drawdown is the peak-to-trough decline in portfolio value before a new high is reached. For retirees, drawdowns are especially dangerous because ongoing withdrawals during a drawdown permanently remove capital, making full recovery much harder — or impossible.
A drawdown measures the decline from a portfolio's peak value to its lowest point before recovering to a new high. Expressed as a percentage, a 30% drawdown means the portfolio fell from its highest point to a value 30% lower. Drawdowns are the most visceral measure of investment risk — they represent the actual loss an investor experiences, not just a statistical probability.
How It Works
Drawdown is measured from peak to trough:
Drawdown % = (Trough Value − Peak Value) / Peak Value × 100
A $1,000,000 portfolio that drops to $650,000 before recovering has experienced a 35% drawdown.
Critical asymmetry: recovering from a drawdown requires a larger percentage gain than the original loss:
| Drawdown | Gain Needed to Recover |
|---|---|
| -10% | +11.1% |
| -20% | +25.0% |
| -30% | +42.9% |
| -40% | +66.7% |
| -50% | +100.0% |
A 50% drawdown requires a 100% gain just to break even — and that's without any withdrawals. For a retiree pulling $40,000/year from a portfolio that just dropped 50%, recovery becomes an uphill battle.
Why It Matters for Retirement Planning
Drawdowns interact with retirement withdrawals to create a compounding problem:
- Portfolio drops → the same dollar withdrawal represents a larger percentage of the shrinking portfolio
- More shares are sold at depressed prices to meet withdrawal needs
- Those shares can't participate in the eventual recovery
- The portfolio's recovery capacity is permanently impaired
This is the mechanism behind sequence-of-returns risk. A deep drawdown early in retirement — even if markets fully recover afterward — can permanently alter the portfolio's trajectory.
Dynamic spending strategies mitigate this by reducing withdrawals during drawdowns, preserving more shares to participate in recovery. The bucket strategy addresses it differently — by funding near-term expenses from cash reserves, avoiding the need to sell equities at depressed prices.
A Practical Example
Two retirees both have $1,000,000 and withdraw $40,000/year. Both experience a 35% drawdown in year 2, followed by an immediate 25% recovery in year 3.
| No Withdrawals | With $40,000/year Withdrawals | |
|---|---|---|
| Year 1 (peak) | $1,000,000 | $1,000,000 |
| Year 2 (-35%) | $650,000 | $610,000 |
| Year 3 (+25%) | $812,500 | $722,500 |
| Recovery shortfall | $187,500 | $277,500 |
The withdrawing retiree is $90,000 worse off — not just from the $80,000 withdrawn over two years, but from selling assets at depressed prices. This gap widens with each passing year, making fat-tail modeling and stress testing essential for realistic retirement projections.
Frequently Asked Questions
- What is the worst drawdown in stock market history?
- The U.S. stock market's worst drawdown was approximately 86% during the Great Depression (1929-1932). More recently, the Global Financial Crisis saw a 57% peak-to-trough decline (2007-2009), and the dot-com bust produced a 49% drawdown (2000-2002). A balanced 60/40 portfolio has historically experienced maximum drawdowns of 25-35%.
- How long does it take to recover from a drawdown?
- Recovery time depends on the depth of the drawdown and subsequent returns. The 2008-2009 drawdown of 57% took about 5.5 years to fully recover. The 2000-2002 drawdown took roughly 7 years. For retirees making withdrawals during recovery, the effective recovery time is even longer because the portfolio must overcome both the loss and ongoing withdrawals.
- Why are drawdowns worse for retirees than for accumulators?
- Accumulators benefit from buying more shares at lower prices during drawdowns (dollar-cost averaging). Retirees do the opposite — they sell shares at depressed prices to fund withdrawals, permanently removing capital that won't participate in the recovery. This is sequence-of-returns risk in action.