What is the Maximum Cumulative Drawdown (MDD)?

The Maximum Cumulative Drawdown (MDD) is defined as the largest single loss that occurs within a defined period in a trading strategy. This metric is critical for assessing the risk of a trading system as it quantifies the maximum observed loss from a peak to a valley before a new peak is achieved. In other words, it represents the worst-case scenario in terms of losses that an investor could face if they were to engage with the trading strategy during the specified time frame.

Understanding MDD is vital for traders because it not only helps in evaluating the performance of a strategy but also assists in risk management and setting appropriate stop-loss levels. A trader can use MDD to gauge the maximum economic impact of a strategy, which can inform their risk tolerance and position-sizing decisions.

The other options pertain to different aspects of performance measurement like overall profit, average losses, or cumulative losses, but they do not accurately define MDD, which is specifically focused on the most significant single loss observed.