Thread: Kelly Criterion
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Old 11-04-2018, 09:41 AM   #1
mick
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Join Date: May 2016
Posts: 711
Kelly Criterion

I'm reading an excellent book titled "Fortune's Formula" by William Poundstone. It's about John Kelly, Ed Thorp, Claude Shannon, beating blackjack and the casinos, organized crime, the stock market, and a myriad of other interesting topics. It's a big, sprawling book, but there's a single thread that weaves itself throughout and that's the Kelly Criterion. Wikipedia defines it as "a formula to determine what proportion of wealth to risk in a sequence of positive expected value bets to maximize the rate of return." It's the creation of a Bell Labs scientist, John L. Kelly, who died of a stroke on a Manhattan sidewalk at the age of 41 in 1965 and apparently, never used his own criterion to make money. A lot of other people have used it though, including Warren Buffett, the managers of many hedge funds, most good poker players and some horseplayers, too.

In my more disciplined periods, I've used a crude version of the formula based on my own hit rate and not some odds line that I tried to create. (I never was any good at creating an odds line.) My method worked but then I'd get bored and decide I wanted to play superfectas or some other form of craziness. Anyway, inspired by the book, here's a spreadsheet I created that hopefully explains it in a simple form, betting one horse to win.

If you know your hit rate (and that's easy enough to determine) and the tote odds, you can determine how much of your bankroll you need to bet to maximize its growth and also avoid gambler's ruin. Obviously, you only need to be betting when you have a positive "edge" and the range of tote odds needs to be something reasonable. My chart wasn't designed for bombs.

I'm mulling over a second version that will address two-horse hedge betting, which is what I do most of the time. But for now, one-horse betting is enough. Hope you find it interesting. (The highlighted lines represent break even, of course.)
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