Kelly criterion
A formula for the share of capital to put on one bet that maximises long-run growth: size follows from the edge in probability rather than from the strength of conviction.
Formula
f^{*} = \frac{b\,p - q}{b}Here p is the probability of winning, q the probability of losing and b the ratio of the win to the amount risked. The answer is a fraction of capital, not a sum of money.
How to read the number
It sets an upper bound on a sensible size: a share above the optimum lowers both the growth rate and the chances of surviving to see it.
When the metric lies
The inputs are probabilities nobody on a market actually knows. An overstated edge produces an oversized share, and the drawdowns at the full formula size are ones almost nobody sits through.
Also known as: kelly bet sizing