The Kelly criterion is a formula for the fraction of capital to risk per trade that maximises long-term compound growth.
f* = W − (1 − W) ÷ R
W is the win rate, R is the ratio of average win to average loss. A strategy winning 55% with wins equal to losses gives f* = 0.55 − 0.45 ÷ 1 = 0.10, or 10% of capital per trade.
Why nobody uses full Kelly
Full Kelly produces the highest growth rate and drawdowns that would end most trading careers — routinely 50% or more. It also assumes you know your win rate and payoff ratio exactly, which you never do. Overestimate your edge and Kelly tells you to size into ruin.
Fractional Kelly
Most practitioners use a quarter to a half of the Kelly fraction. Half Kelly gives up about 25% of the growth rate while cutting drawdowns dramatically. Quarter Kelly is common where edge estimates are uncertain, which in trading is always.
What Kelly actually teaches
The formula matters less than the principle: position size should be a function of edge and uncertainty about that edge, not a round number or a feeling. A strategy that doesn’t know its own statistics can’t size correctly, and a strategy that sizes wrongly will fail even with a real edge.