Most traders size their prop firm account off the drawdown in their backtest. It's one of the most common ways to get kicked out of a challenge you could have passed. This is part two of a four-part series on trading for prop firms. Part one built a small, diversified portfolio. This part works out how much capital that portfolio really needs to stay inside a 10% drawdown limit, and why the honest answer is far bigger than the backtest suggests.
Risk note. Trading involves substantial risk of loss. The portfolio and capital figures below come from a backtest used for teaching, not a recommendation to trade it, and there's no guarantee you'll pass a challenge or make money. Even a Monte Carlo estimate can be exceeded in live trading.
Why Drawdown Decides Whether You Pass
In part one, three opening-gap strategies on E-mini Nasdaq were combined into what I call a micro portfolio: a small group of strategies with low correlation to each other. That covered the first requirement, a steady, regularly rising equity curve.
But with prop firms, the most important part is drawdown. Most firms don't let you fall more than about 10% from your peak. Go past it and you're out, however good the rest of your curve looks.
The exact rule varies from firm to firm, so check yours. Here I'll work with 10%. The good news is that a precise rule makes the sizing precise too. Once you know the limit and your drawdown, the right account size is simple arithmetic.
And there's no free money here. You won't get through by cheating or spending your days hunting for free indicators online. You lay the foundations, do your homework properly, build good strategies of your own, and then size them correctly.
The Capital Formula: Drawdown ÷ Allowed Drawdown
To stay inside a maximum drawdown limit, you need two numbers: your maximum drawdown in dollars, and the percentage the firm allows. Then it's one division.
The capital formula
Capital needed = maximum dollar drawdown ÷ allowed drawdown. At a 10% limit, that's your drawdown times 10.
The portfolio from part one has a historical maximum drawdown of $21,995 in the backtest. At a 10% limit, that's about $220,000 of capital ($219,950 to be exact).
Don't freak out about the size yet. That's on E-mini Nasdaq, and there's a much smaller contract we'll get to. The bigger problem is the drawdown figure itself. The formula is only as good as the number you put into it.
Why Your Backtest Drawdown Is Too Optimistic
Here's the trap most traders miss. Your historical drawdown is just one sequence of trades: the order they happened to come in during the backtest. Your live drawdown will never match it exactly.
I've been trading professionally for over 20 years, including for hedge funds, and I've yet to see a portfolio that didn't eventually exceed its maximum historical drawdown.
The reason is order. Even if a strategy is very robust, its trades won't come out in the same order in the future. Some orders bunch the losers together into a longer losing streak. That's exactly why real-time drawdowns are often bigger than backtest drawdowns.
So if you size your account off the historical drawdown, you're sizing for the friendliest version of your own past. That's too optimistic.
Monte Carlo: How $21,995 Became $51,562
This is where Monte Carlo analysis comes in. It takes every trade in the portfolio, shuffles the order randomly hundreds or thousands of times, and records the maximum drawdown of each reshuffled equity curve.
In BreakoutOS, the Monte Carlo Analyzer is a node in the Portfolio Builder. I connected it to the three-strategy portfolio and ran 500 simulations, with 100 of the curves shown on the chart. Each shadow curve is a possible outcome of the same portfolio with its trades in a different order.
| Portfolio risk measure | Result | What it means |
|---|---|---|
| Historical maximum drawdown | $21,995 | Largest drawdown in the backtested sequence |
| Monte Carlo maximum drawdown | $51,562 | Realistic estimate across 500 reshuffles |
| Monte Carlo vs historical | 2.34x | The realistic drawdown is more than double |
| Most trades in a drawdown | 145 vs 61 | The losing stretch could also last much longer |
I know you won't want to hear it, but the realistic drawdown is about 2.34 times the backtest figure. The longest drawdown stretched from 61 trades to 145 as well, which tests your patience as much as your account.
In my experience, Monte Carlo drawdowns get hit, or come close, sooner or later. That's the nature of trading. Monte Carlo can't tell you when your next losing streak will arrive, but it gives you a far more realistic picture of how deep one could go.
The rule to remember
Your backtest drawdown is the best case. Size your account for the Monte Carlo drawdown, because sooner or later live trading will test it.
Three Ways to Size the Account
Put the Monte Carlo drawdown into the same formula and the capital requirement changes completely. BreakoutOS shows all three versions side by side.
| Sizing method | Capital at a 10% limit | What it means |
|---|---|---|
| Historical based | $219,950 | Most optimistic. Assumes live trading never beats the backtest drawdown |
| Balanced (average) | $367,786 | A middle ground that accepts more risk than Monte Carlo sizing |
| Monte Carlo based | $515,623 | Sized for the larger simulated drawdown. The safest of the three |
Half a million dollars for three strategies is a big stretch, and it's the worst case. Not everyone has that kind of capital, so you may have to accept a bit of a gamble. If you do, gamble with the balanced figure. Sizing off the historical drawdown is way too naive. You'll almost certainly see worse than that.
The balanced method uses a drawdown between the historical and Monte Carlo figures. For this portfolio, it puts you on the safer side of the 10% limit without needing the full Monte Carlo capital.
See BreakoutOS in Action
Watch how the Portfolio Builder and Monte Carlo Analyzer turn a backtest into a realistic account size.
Watch Demo Videos →E-mini vs Micro Nasdaq: Why Contract Size Matters
Everything so far assumes E-mini Nasdaq. Micro Nasdaq contracts are one tenth the size, so every capital figure drops to a tenth.
| Sizing method | E-mini Nasdaq | Micro Nasdaq |
|---|---|---|
| Historical based | $219,950 | $21,995 |
| Balanced (average) | $367,786 | $36,779 |
| Monte Carlo based | $515,623 | $51,562 |
That's how the same portfolio goes from out of reach to workable. Roughly $37,000 on micros puts this example on the safer side of a 10% limit. Treat it as an illustration of the math: firms' account sizes, rules and fees don't always scale this neatly, so run the numbers against your firm's actual terms.
Don't mix up the two "micros". A micro portfolio is a small group of strategies. Micro contracts are smaller futures contracts. You can use both, and in this example you would.
How to Lower the Capital You Need
Can you get the requirement lower? Yes. Add two or three more strategies that don't move with the ones you already have. A smoother portfolio usually has a smaller historical drawdown, and that usually shrinks the Monte Carlo drawdown too. Both bring the capital you need down.
Three to six well-diversified strategies on the right markets is a reasonable target, and you can also look at different, smaller markets. But extra strategies only help if they're properly built, tested and genuinely uncorrelated. Adding weak ones can make things worse.
It's more doable than most people think. You just need to put the work in and think it through. That's the job BreakoutOS was designed for, from building strategies A to Z through to the Portfolio Builder and Monte Carlo Analyzer.
For other ways to stress-test a strategy before you trust it, see Why I'd Reject a Strategy That Looks Great in a Backtest.
Recap and What's Next in the Series
- Build a micro portfolio. A few low-correlation strategies give you a steady equity curve with smaller drawdowns.
- Measure the historical drawdown. Get the portfolio's maximum drawdown in dollars from the backtest.
- Run Monte Carlo. Shuffle the trades to find the realistic drawdown, which will be worse than the backtest.
- Size the account. Divide the Monte Carlo (or at least the balanced) drawdown by the firm's allowed drawdown.
- Pick the contract size. If the E-mini number is out of reach, micros cut it to a tenth.
If you understand this basic math, you understand the foundation of risk management behind prop firms. Part three covers how to build viable strategies for a challenge and how to make doubly sure you never breach the drawdown limit. Part four covers how to pick an honest prop firm.
Go deeper on prop firms
The Prop Firm Playbook takes this further: nine plays and six videos on building a portfolio that can pass the challenge, sizing your capital and getting funded. See The Prop Firm Playbook.
Frequently Asked Questions
About the Author
Tomas Nesnidal, known to the systematic trading community as Mr. Breakouts, is a breakout trading specialist, hedge fund co-founder, and creator of BreakoutOS. He has managed institutional portfolios using breakout strategies for over 15 years, trading from 65+ countries. He is the author of The Breakout Trading Revolution and co-founder of Breakout Trading Academy.