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An Equation for Money Management

MJG
in The OT Bullpen
Hi Guys,

I first learned of a money management equation by John Kelly in the Fortune's Formula book by William Poundstone.

It is a simple algebraic relationship that ties historic winning percentages and the ratio of historic winnings to losses to the fraction of wealth that should be risked in a single wager. When applied to the marketplace, it recommends what fraction of your wealth should be committed to the risky equity venture.. It's a probabilistic relationship. If you project lessor or more returns, the equation can be used to reflect those departures from the existing accumulated data. Here is a Link that describes and discusses the Kelly Equation:

http://www.investopedia.com/articles/trading/04/091504.asp?lgl=rira-baseline-vertical

Applying the Kelly Equation to annual equity returns since 1950, and assuming future returns will be similar to past performance, suggests that roughly 53% of your uncommited wealth should be invested in the equity marketplace. I was surprised by that rather low commitment outcome. Using the equation and your own estimate of the future value of the parameters needed to evaluate the equation, you can generate your own commitment estimate.

I have no idea how reliable the Kelly Equation is when applied to real world market performance. As always, the risk is your very own. Good Luck!!!

Best Regards




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