Encyclopedia · sizing · money-management
Kelly criterion
The bet size that maximizes long-run growth — and why practitioners trade a fraction of it.
The Kelly criterion (Kelly, 1956) gives the fraction of capital that maximizes the long-run growth rate of a repeated favourable bet. Bet more and growth falls while ruin risk explodes; bet less and growth is merely slower. For strategies, full Kelly requires knowing the true edge and variance — quantities you only ever estimate.
That estimation error is why practice uses fractional Kelly: at half or quarter Kelly you give up a modest share of theoretical growth in exchange for dramatically flatter drawdowns and robustness to overestimating your edge (MacLean, Thorp & Ziemba, 2011). A quarter-Kelly cap is a common ceiling for scaling decisions on backtested — hence uncertain — edges.
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