Kelly criterion
A formula for the bet size that maximizes long-run growth given your edge and the odds. Most traders use a fraction of full Kelly to reduce volatility and risk of ruin.
Full Kelly maximizes growth but is famously volatile, so practitioners commonly bet a quarter or half of the Kelly size. The formula only helps if your edge estimate is honest; overestimating edge leads Kelly to recommend dangerously large bets.
The Kelly criterion is a formula for sizing bets to maximize the long-run growth of a bankroll. It tells you what fraction of your capital to risk on a given opportunity based on your edge and the odds, balancing the desire to grow fast against the need to avoid ruin. The bigger and more certain your edge, the larger the Kelly fraction.
Full Kelly is aggressive and assumes your edge estimate is exactly right, which it rarely is. Because overestimating edge leads to oversized bets and brutal drawdowns, most disciplined traders use fractional Kelly, often half or a quarter, which sacrifices a little growth for much smoother equity and a far smaller chance of a catastrophic losing streak.
On a binary market the inputs are your estimated probability of winning and the price you pay. The output is a position size, not a prediction. Kelly does not tell you whether a trade is good; it assumes you already have an edge and answers the separate question of how much to risk so that a string of normal losses does not knock you out.
If you have a genuine edge where you win 55 percent of even-money bets, full Kelly suggests risking about 10 percent of your bankroll per bet. Half-Kelly would suggest about 5 percent, trading some growth for much gentler drawdowns and a lower risk of ruin.
Frequently asked questions
What is the Kelly criterion?
It is a bankroll-sizing formula that sets the fraction of your capital to risk on a bet based on your edge and the odds, aiming to maximize long-run growth while avoiding ruin.
Should I use full Kelly?
Most traders use fractional Kelly (half or quarter) because full Kelly assumes a perfectly accurate edge estimate. Fractional sizing gives up a little growth for much smaller drawdowns and lower risk of ruin.
Does Kelly tell me if a trade is good?
No. It assumes you already have an edge and answers only how much to risk. You still need an accurate probability estimate for the position size to be meaningful.