# Thread: New money management technique-kelly criterion

1. ## New money management technique-kelly criterion

I have been searching google for new money management techinques. I have found
kelly's criterion.

Well,the usual money management is risk a percentage of your capital e.g. 20%.
As your balance grows, you have steady risk (20 %), but increased lots.
for \$1000 you have 0.1 lots, for \$2000 you have 0.2 lots. But what will happen if you have
some consecutive losses when you are using 0.2 lots? You will sink to \$1000 again. Here comes the kelly criterion. It is an equation with two parameters:
profit factor,probability to win a trade. The equation is:

%K=W-(1-W)/R
W: The probability to win a trade
R:The profit factor. This is calculated by finding average loss and average profit of a number of trades e.g. 50 and then dividing the average profit by average loss.
R=average_profit/average_loss
%K:Percentage of capital to risk

This is taken from investopedia:
2. Calculate "W", the winning probability. To do this, divide the number of trades that returned a positive amount by your total number of trades (positive and negative). This number is better as it gets closer to one. Any number above 0.50 is good.
3. Calculate "R," the win/loss ratio. Do this by dividing the average gain of the positive trades by the average loss of the negative trades. You should have a number greater than 1 if your average gains are greater than your average losses. A result less than one is managable as long as the number of losing trades remains small.
4. Input these numbers into Kelly's equation: K% = W – [(1 – W) / R].
5. Record the Kelly % that the equation returns.

I would be very interested to see an expert advisor that uses the kelly's criterion as a money management techinque.

2. ## Kelly's criteria

Originally Posted by pakallis
I have been searching google for new money management techinques. I have found
kelly's criterion.

Well,the usual money management is risk a percentage of your capital e.g. 20%.
As your balance grows, you have steady risk (20 %), but increased lots.
for \$1000 you have 0.1 lots, for \$2000 you have 0.2 lots. But what will happen if you have
some consecutive losses when you are using 0.2 lots? You will sink to \$1000 again. Here comes the kelly criterion. It is an equation with two parameters:
profit factor,probability to win a trade. The equation is:

%K=W-(1-W)/R
W: The probability to win a trade
R:The profit factor. This is calculated by finding average loss and average profit of a number of trades e.g. 50 and then dividing the average profit by average loss.
R=average_profit/average_loss
%K:Percentage of capital to risk

This is taken from investopedia:
2. Calculate "W", the winning probability. To do this, divide the number of trades that returned a positive amount by your total number of trades (positive and negative). This number is better as it gets closer to one. Any number above 0.50 is good.
3. Calculate "R," the win/loss ratio. Do this by dividing the average gain of the positive trades by the average loss of the negative trades. You should have a number greater than 1 if your average gains are greater than your average losses. A result less than one is managable as long as the number of losing trades remains small.
4. Input these numbers into Kelly's equation: K% = W – [(1 – W) / R].
5. Record the Kelly % that the equation returns.

I would be very interested to see an expert advisor that uses the kelly's criterion as a money management techinque.

This sounds interesting and it comes up at the right time where I was looking for a good money management for an EA.
I will try and incorprate this into my EA and let you know unless someone completes this before me.

3. Very nice!
So basically, it tells you how much % you can risk in any trade, given your systems' performance. Here is an applet I found that calculates it, and shows you the equity curve for a system (it basically simulates your trading system):

I have found that it is very good for demonstrating the statistical aspect of trading.

4. very nice and informative posts
thanks