Why only use one method Kelly Criterion for Optimal Leverage: Concept: Use the Kelly Criterion to determine the optimal leverage or number of contracts based on your win probability (70%) and average win/loss size. The Kelly formula helps maximize growth while minimizing risk. Action: Calculate the Kelly fraction based on your win rate, average win, and average loss. 70% wins and loss 2x profit per trade. Use this to scale the number of contracts dynamically (e.g., if the Kelly fraction suggests a 0.5 leverage, you should double the number of contracts). Summary of Actions to Add Contracts Winning Streaks: Add more contracts when you experience 2 or more consecutive wins. Scale progressively as the streak continues. Volatility-Based: Increase contracts during low volatility periods and reduce them during high volatility. Kelly Criterion: Adjust the number of contracts based on the Kelly fraction, which calculates the optimal amount of leverage. Drawdown Reduction: Reduce contracts when you experience a drawdown of more than a certain percentage (e.g., 10%). Summary of Adjustments: Win Streak Scaling: Add contracts progressively during winning streaks. Volatility-Based Adjustment: Add contracts during periods of low volatility. Kelly Fraction: Adjust contracts dynamically based on the Kelly Criterion. Drawdown Reduction: Reduce the number of contracts during drawdowns. This combination dynamically adjusts the number of contracts based on multiple factors, allowing you to leverage up during favorable conditions and reduce risk when necessary.
I have additional to the mentioned over a dozen of different position sizing techniques develeped my own position sizing strategies. You should do too. It is custom made and unique and nowhere in any literature mentioned except in my doctoral dissertation. It is totally different from those concepts and has its own meaning. If you can define your key risks you can also develop your own sizing techniques, like "Kelly" has done earlier. Be creative and look yourself.
You can play around and calculate with this software which is not free at adaptrade(.com), called MSA = Market System Analyzer. Here is the manual where I got some definitions of pos sizing.
These strategies help balance risk and return, especially when leveraged instruments are involved. Below are some key money management techniques and position sizing methods explained: 1. Fixed Fractional Position Sizing (Fixed Risk) Concept: This method risks a fixed percentage of account equity on each trade. For example, you might risk 2% of your account on every trade. Calculation: Position size is determined based on the trade risk, which is often the size of the money management stop. Example: If the risk per trade is $1,000 and the account size is $50,000, you would risk $1,000 on each trade. Pros: This method increases the number of contracts as equity grows and reduces it when equity declines, leading to potentially geometric growth. Cons: The trade size may shrink significantly during drawdowns, which can prolong the recovery period . 2. Optimal F (Position Sizing for Maximum Growth) Concept: Optimal F is a specialized form of fixed fractional sizing that seeks to maximize the geometric growth rate of equity. Calculation: It uses a fixed fraction based on historical data to maximize growth, but it can result in large drawdowns. Example: Optimal F might suggest risking 18% of the account on a trade if it maximizes growth based on past performance. Pros: Maximizes account growth over time. Cons: High drawdowns are a common downside, making it impractical for many traders . 3. Kelly Criterion Concept: The Kelly formula calculates the optimal fraction of capital to risk on a trade to maximize the long-term growth rate. Calculation: Based on the probability of winning and the size of wins and losses, the formula suggests the ideal position size. Example: If the probability of winning is 65% and the average gain is larger than the loss, the formula might suggest risking 18.3% of capital per trade. Pros: Provides a mathematically optimal position size for maximum growth. Cons: Like Optimal F, it can suggest large positions, leading to unacceptable drawdowns . 4. Profit Risk Method Concept: The profit risk method allocates risk based on both initial equity and profits earned. This method risks a percentage of the starting equity plus a percentage of the total closed trade profits. Calculation: For example, risk could be 2% of initial equity and 5% of profits. Example: If the account started with $25,000 and grew to $45,000, the risk on the next trade could be $1,500 (2% of $25,000 + 5% of $20,000 in profits). Pros: Provides a way to adjust risk as profits accumulate. Cons: Requires careful monitoring of both equity and profits . 5. Fixed Size Position Sizing Concept: This method involves trading a fixed number of shares or contracts on every trade, regardless of account size or trade risk. Pros: Simple to implement and easy to understand. Cons: Does not adjust for account size changes, leading to under-leverage during profitable periods or over-leverage during drawdowns . 6. Percent Volatility Position Sizing Concept: This method sizes positions based on the volatility of the underlying asset, risking a fixed percentage of equity on each trade based on the asset's recent volatility (e.g., using the ATR - Average True Range). Calculation: A fixed percentage of equity is allocated for each trade, adjusting the position size based on the ATR. Example: If an asset has high volatility, the position size will be smaller. Pros: Dynamic adjustment to market conditions, reducing risk during volatile periods. Cons: May require frequent recalculations and adjustments . 7. Equity Curve Trading Concept: This technique uses the equity curve of your trading account to adjust position sizes. When the equity curve is rising, it might signal increasing position sizes, while a falling equity curve signals reducing the size. Pros: Helps prevent over-trading during drawdowns and maximizes profits when the system is performing well. Cons: Can be lagging, as it reacts to past performance . 8. Fixed Ratio Position Sizing Concept: Fixed ratio position sizing increases position size based on profits, but it does so according to a predefined delta (e.g., adding one contract for every $2,000 in profit). Pros: More conservative than Optimal F or Kelly, but still grows position size as the account grows. Cons: May underperform compared to more aggressive methods in fast-growing accounts . General Recommendations: Martingale Methods: Not recommended as they involve increasing position size after losses, which can lead to large, compounded losses . Anti-Martingale Methods: Preferred for profitable trading systems, as they scale up when the system is working well and down when performance falters . Each method has its advantages and disadvantages, and the best choice depends on the trader's risk tolerance, the system's characteristics, and the capital available for trading.
Kelly is pretty simple (pb-q)/b Hope we all know b (r:r) before to enter, But p and q (1-p) are pretty tough to quantify. There’s also the minimax strategy: Bet 1: 40% chance to win $100. 60% chance to lose $50. Bet 2: 20% chance to win $300. 80% chance to lose $30. Calculate EV: For Bet 1: EV=(0.40×100)+(0.60×−50)=40−30=10 Expected value for Bet 1 is $10. For Bet 2: EV=(0.20×300)+(0.80×−30)=60−24=36 Expected value for Bet 2 is $36. Identify Worst-Case Scenario: Bet 1: The worst-case loss is $50. Bet 2: The worst-case loss is $30. Apply Minimax: Bet 2 has the lower worst-case loss ($30 vs. $50), so it’s the safer option from a minimax perspective. Balancing EV and Minimax: Bet 2 also has the higher expected value ($36 vs. $10), making it the better choice in both the EV and minimax frameworks. Sometimes the best worst case bet has the lowest EV but if we leverage the best worst case then its EV becomes greater and might even beats the other bets EVs (Risk adjused) I think it has been proven kelly is the optimal bet sizing to grow an account if we can quantify the necessary variables + uncertainty.