What is the Kelly Criterion, and how does it apply to trading?

       The Kelly Criterion is a formula used to decide the best size of a trade or bet to maximize long-term growth of capital while minimizing the risk of losing everything. In trading, it helps you figure out how much money to risk on each trade based on the chance of winning and the potential reward. This approach aims to grow your account steadily without risking too much on one trade.

How Does the Kelly Criterion Work?

The Kelly Criterion uses a simple formula that combines your winning probability and win/loss ratio to calculate the ideal percentage of your capital to risk. This helps avoid betting too much when the odds are not in your favor and maximizes gains when they are. It balances risk and reward to grow your money safely over time.

Why is Kelly Criterion Useful for Traders?

Kelly Criterion helps traders avoid risking too much on one trade, which can lead to big losses. It also stops traders from risking too little, which slows account growth. By using this method, traders can manage money better, keep losses under control, and grow their trading capital steadily.

How Do You Calculate the Kelly Criterion?

The formula is: Kelly % = W - [(1 - W) / R]
Where,

• W = Probability of winning (expressed as a decimal)
• R = Win/Loss ratio (average win divided by average loss)

The result shows what percentage of your capital to risk on a trade. If the result is negative, it means you should avoid that trade.

Can Indian Traders Use Kelly Criterion?

Yes, Indian traders can use the Kelly Criterion to manage risk and improve trading success. It works well with Indian stocks, commodities, and currency trading. Many Indian brokers and trading platforms support risk management tools that help apply this method. Using Kelly Criterion helps Indian traders protect capital and grow profits steadily.

What Are the Limitations of Kelly Criterion?

Kelly Criterion assumes you can estimate winning probability and win/loss ratio accurately, which is hard in real trading. It can suggest high risk if inputs are wrong, so many traders use a fraction of the Kelly % to be safer. It also doesn't consider sudden market crashes or unexpected events. So, it should be used with other risk management methods.

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