Independent Thinking^®

Estimating Drawdowns: How Low Can the Markets Go?

In the spirit of transparency, and because we believe it’s the best estimate of portfolio risk, Evercore Wealth Management attempts to show clients an estimated maximum drawdown for their portfolios, from market peak to trough.

We start with basic assumptions, based on historical data, for each of our asset classes: Cash, Defensive Assets, Credit Strategies, Diversified Market Strategies, and Growth Assets. And we test those assumptions, effectively shocking them by modeling across a range of market scenarios. For example, how much could yields rise? What if they rise across the entire curve? How much do credit spreads widen? What is the potential relationship between U.S. and international stock performance?
 
We then multiply these adjusted assumptions for each asset class by the weights we allocate to them in our sample portfolios or investment objective guidance. The result is our maximum drawdown estimate, currently 25% for a balanced portfolio. It’s worth noting that we calculate the drawdown in our sample balanced account as though we do not own illiquid alternative assets. We do this because there is a lag in illiquid manager performance reporting, and excluding these assets seems to us to be the more conservative approach. We believe investors with illiquid growth assets should, over time, expect a similar drawdown.
 
We review and, if necessary, revise, these assumptions at the same time we update our long-term capital market assumptions, and as circumstances warrant. This review also gives us a chance to compare our estimates to previous market selloffs at both the sample portfolio level and the individual asset class level to make sure our assumptions are reasonable in practice.
 
In the 13 years since our firm’s inception, we have never breached our maximum drawdown estimate. Even the Great Recession downturn of 2007-2009, which forged our approach, remained within our expectations. The 2020 post-COVID shutdown market plunge came close, but in the end it held. We believe our estimated drawdown analysis is a good tool that allows us to advise our clients to ride out down markets and allows us to plan and invest with confidence in all market conditions.