Once you have a profitable edge, the next question is: how much should you risk per trade to grow capital fastest over the long run? The Kelly Criterion answers that — but its raw output is far too aggressive. This course tempers it with Pareto's Principle (the 80/20 rule), then leans on a trade journal to keep the inputs honest.
Kelly Criterion: K = W − (1 − W) ÷ R (W = win rate, R = reward-to-risk ratio)
K is the fraction of capital that maximizes long-term geometric growth
If K ≤ 0 → do NOT take the trade. Your edge is negative.
The course's method: multiply the Kelly output by 20% (Pareto) to get your actual position size
Lesson
Kelly Criterion — and Why You Bet a Fraction of It
Kelly tells you the bet size that grows capital fastest over many trades. But it assumes you know your true win rate and payoff exactly — and you don't, you estimate them. Overbetting a Kelly built on optimistic estimates leads to brutal drawdowns, so professionals trade a fraction of Kelly.
The formula: K = W − (1 − W) ÷ R (W = win rate, R = reward-to-risk)
Example: W = 55%, R = 3 → K = 0.55 − 0.45 ÷ 3 = 0.55 − 0.15 = 0.40 (40%)
Even-money shortcut: when R = 1, the formula simplifies to K = 2W − 1 (e.g., 60% win rate → 20%)
Full Kelly is too aggressive: the worked example (60% win rate, 3R setups) says risk 40% per trade — 'red flags should pop up in your head'
Pareto's Principle (the 80/20 rule): ~80% of your trades won't drastically move your portfolio; only ~20% become the big winners (or, unmanaged, the big losers)
The course's method — multiply the modified-Kelly output by 20%: 40% × 20% = 8% risk — 'the sweet spot' for position sizing (equivalent to a fifth-Kelly)
Multiplying by 20% accounts for the ~80% of trades that are throwaways, giving your system time to produce results
Drawdown asymmetry: losing 50% requires a 100% gain to recover — protect capital first
Journal EVERY trade: entry, stop, target, risk%, actual R, screenshot — accurate stats are what make Kelly usable at all
Check Yourself
Your strategy wins 60% of the time on 1:1 risk/reward trades. The Kelly Criterion works out to ≈20%. Using this course's method, how should you actually size your trades?
Risk the full 20% on every trade — it is the mathematically optimal bet
Multiply the Kelly output by 20% (Pareto's Principle) → risk 4% per trade
Risk 60% — your win rate is your position size
Kelly is negative here, so you should skip the trade entirely
Answer it (with a live chart) in the interactive lesson.
Liquidity Theory · Learn · Analyze · Trade together Educational content only — trading involves substantial risk and most beginners lose money. Nothing here is financial advice.