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It's useful as an upper limit--if you're leveraging past what Kelly suggests you're almost certainly overleveraged. In theory, Kelly is optimal--if you knew th
by evo 5y ago
It's useful as an upper limit--if you're leveraging past what Kelly suggests you're almost certainly overleveraged.
In theory, Kelly is optimal--if you knew the exact probability density function of your returns, it would give you the right leverage to take.
In practice, you're always playing with risks, some you're factoring into your models, some you're choosing not to because they're intractable, some you're not even aware of until they occur. The most basic premise--today's returns will be a function of hypotheses that I've derived from looking at past observations--is an approximation at best.
This mismatch between model and reality can lead to expensive lessons learned when using the full Kelly model, so often traders will "half-kelly" or something like that, to incorporate the basic idea of risk scaling proposed by the Kelly model but with more safety margin.
- 6gvONxR4sf7o 5y ago> In theory, Kelly is optimal... It's optimal for one utility function (log of future $), but that doesn't make it necessarily optimal for everything, right?
- evo 5y agoThat’s a great callout as well: it’s optimal for maximizing your expected growth in the long term, but does carry significant volatility. That’s fine for an emotionless immortal robot investor, but as we’re human. If we’re close to an investment goal, like saving a house downpayment or retiring, the calculus is quite different. Even outside that, loss aversion is a real thing and we’re likely happier trading some upside for being able to sleep at night.
- LudwigNagasena 5y agoIt is optimal for the growth of your wealth in the long run. The issue of utility only comes into play if you have to bet a finite amount of times and you don’t plan to or cannot live forever.
- kqr 5y ago> This mismatch between model and reality can lead to expensive lessons learned when using the full Kelly model, so often traders will "half-kelly" or something like that, to incorporate the basic idea of risk scaling proposed by the Kelly model but with more safety margin. And to be clear, half-Kelly, quarter-Kelly, eighty-percent-Kelly and any other linear combination between wallet and full Kelly are actually still the only strategies that are growth optimal -- given the particular safety margin each corresponds to.