Understanding Balance-Based Drawdown
Drawdown calculation methods are one of the most important factors when choosing a prop firm, yet many traders don't fully understand the difference between balance-based and equity-based drawdown. This distinction can significantly impact your ability to hold positions, manage risk, and maintain funded status.
Balance-based drawdown calculates your maximum drawdown limit based on your starting account balance, not your current equity (which includes floating P/L from open positions). This means you can hold positions with temporary floating losses without those losses immediately counting toward your drawdown limit. Only closed losses affect your balance and drawdown calculation.
Equity-based drawdown, on the other hand, uses your current equity (balance + floating P/L) to calculate the limit. This means if you have open positions with floating losses, those losses immediately count toward your drawdown limit, even though the positions haven't been closed yet. This can be problematic for swing traders who hold positions overnight or for multiple days.
In this comprehensive guide, we'll explore everything you need to know about balance-based drawdown: how it works, why it's more favorable, which prop firms offer it, and how to choose the best balance-based drawdown prop firm for your trading style.
What is Balance-Based Drawdown?
How Balance-Based Drawdown Works
Balance-based drawdown calculates your maximum drawdown limit based on your starting account balance, not your current equity. Your drawdown limit is fixed at a percentage of your initial balance, and only closed losses affect your balance. Floating losses from open positions don't count toward your drawdown limit until the positions are closed.
Balance-Based Drawdown Example
Starting Balance:
$100,000 | 10% Drawdown = $10,000 limit
Can drop to $90,000
Open Position:
Floating loss: -$5,000
Equity: $95,000
Drawdown Status:
Balance still $100,000
Floating loss doesn't count!
Key Characteristics
- ✓Fixed Limit: Calculated from starting balance only
- ✓Floating Losses Ignored: Open positions don't affect limit
- ✓Swing Trading Friendly: Can hold positions overnight
- ✓Less Stress: Temporary market movements don't threaten account
- ✓Recovery Opportunity: Positions can recover before closing
Balance-Based vs Equity-Based Drawdown
Balance-Based Drawdown (Favorable)
- ✓Drawdown calculated from starting balance
- ✓Fixed drawdown limit throughout challenge
- ✓Can hold positions with floating losses
- ✓More flexibility for swing trading
- ✓Less risk of hitting limit from open trades
- ✓Positions can recover before closing
- ✓Better for position holding strategies
Best For: Swing traders, position traders, traders who hold positions overnight, and those who want flexibility with open positions.
Equity-Based Drawdown (Stricter)
- ✗Drawdown calculated from current equity
- ✗Drawdown limit moves with account equity
- ✗Floating losses count toward drawdown
- ✗More restrictive for position holding
- ✗Higher risk of hitting limit from open trades
- ✗Temporary losses can close account
- ✗Less flexibility for recovery
Best For: Day traders who close all positions before market close, scalpers, and traders who don't hold positions overnight.
Balance-Based vs Equity-Based: Real Example
Scenario: Holding a Position Overnight
You start with $100,000 and have a 10% drawdown limit. You open a position that goes into a $5,000 floating loss overnight:
Balance-Based Drawdown
✅ Account Safe
Floating loss doesn't count. Balance still $100K, well above $90K limit.
Equity-Based Drawdown
⚠️ At Risk
Floating loss counts! Equity $95K, only $5K from $90K limit.
Key Difference: With balance-based drawdown, your $5,000 floating loss doesn't affect your drawdown calculation. Your balance remains $100,000, giving you a $10,000 buffer. With equity-based drawdown, your equity is $95,000, meaning you're only $5,000 away from the $90,000 limit. Balance-based gives you much more flexibility!
How Balance-Based Drawdown Works in Practice
Benefits of Balance-Based Drawdown
- ✓Swing Trading Friendly: Can hold positions overnight and over weekends without drawdown concerns
- ✓Reduced Risk: Floating losses don't immediately count toward drawdown
- ✓More Flexibility: Better for strategies that require holding positions
- ✓Clearer Limits: Fixed drawdown limit is easier to manage
- ✓Recovery Opportunity: Positions can recover before being closed
- ✓Less Stress: Temporary market movements don't threaten account
Important Considerations
- ⚠Closed Losses Count: Once you close a losing position, it affects your balance and drawdown
- ⚠Risk Management Still Required: Balance-based doesn't mean unlimited risk
- ⚠Position Sizing: Still need to manage position sizes appropriately
- ⚠Not All Firms Offer It: Many firms use equity-based drawdown
- ⚠Verify Calculation: Always check how each firm calculates drawdown
Prop Firms Using Balance-Based Drawdown
The following information helps you identify and choose prop firms that use balance-based drawdown. Always verify the specific drawdown calculation method with each firm:
How to Identify Balance-Based Drawdown
Look for firms that specify "balance-based" or "starting balance" in their drawdown calculations. Check their terms of service and FAQ sections carefully.
- •Read terms of service carefully
- •Check FAQ sections
- •Contact customer support
- •Review challenge rules documentation
- •Look for "balance" vs "equity" language
What to Look For
Firms with balance-based drawdown typically mention it explicitly. Some firms use hybrid approaches, so always verify.
- ✓"Drawdown calculated from starting balance"
- ✓"Balance-based drawdown"
- ✓"Floating losses don't count"
- ✓"Only closed losses affect drawdown"
- ✓"Swing trading friendly"
Trading Strategies for Balance-Based Drawdown
Swing Trading
Balance-based drawdown is ideal for swing trading. You can hold positions for days or weeks without worrying about floating losses immediately affecting your drawdown limit.
- • Hold positions overnight
- • Hold over weekends
- • Multi-day positions
Position Trading
Position traders who hold trades for weeks or months benefit significantly from balance-based drawdown. Temporary market movements don't threaten your account.
- • Long-term positions
- • Trend following
- • Fundamental trading
Recovery Strategies
If you have open positions with floating losses, balance-based drawdown gives you time for positions to recover before they affect your drawdown limit.
- • Let winners run
- • Recovery time
- • Less pressure
Balance-Based vs Equity-Based Comparison
| Feature | Balance-Based | Equity-Based |
|---|---|---|
| Calculation Base | Starting balance | Current equity |
| Floating Losses | Don't count | Count immediately |
| Swing Trading | Excellent | Problematic |
| Overnight Holding | Safe | Risky |
| Recovery Flexibility | High | Low |
| Best For | Swing/position traders | Day traders |
Understanding Drawdown Calculation Methods
Learn about the differences between balance-based and equity-based drawdown calculations
Frequently Asked Questions
What is balance-based drawdown?
Balance-based drawdown calculates your maximum drawdown limit based on your account balance (starting balance), not your current equity. This means your drawdown limit stays fixed at the starting balance, making it easier to maintain funded status compared to equity-based drawdown. Floating losses from open positions don't immediately count toward your drawdown limit.
What is the difference between balance-based and equity-based drawdown?
Balance-based drawdown uses your starting account balance to calculate the limit, while equity-based drawdown uses your current equity (balance + floating P/L). Balance-based is more favorable as it doesn't count floating losses immediately, allowing you to hold positions with temporary losses without hitting your drawdown limit.
Which prop firms use balance-based drawdown?
Several prop firms use balance-based drawdown, including some evaluation-based firms. Balance-based drawdown is generally more favorable for traders as it provides more flexibility, allows holding positions with floating losses, and reduces the risk of hitting drawdown limits from temporary market movements. Always check each firm's terms of service to verify their drawdown calculation method.
Is balance-based drawdown better for traders?
Yes, balance-based drawdown is generally more favorable for traders as it provides more flexibility, allows holding positions with floating losses, reduces the risk of hitting drawdown limits from temporary market movements, and is better suited for swing trading and position trading strategies.
Do floating losses ever count with balance-based drawdown?
With balance-based drawdown, floating losses don't count toward your drawdown limit while positions are open. However, once you close a losing position, that loss is realized and affects your account balance, which then affects your drawdown calculation. Only closed losses count toward balance-based drawdown.