Why Maximum Final Wealth Differs from Kelly Log-Growth Optimization
Article Quant Q&A · Author: Alex Craft
Summary
The document compares selecting a betting fraction by maximizing the terminal wealth from one simulated sequence with choosing a fraction under the Kelly criterion. In a repeated even-odds coin game with a stated win probability, it calculates the classical Kelly fraction and reports a nearby fraction as the best result from a finite grid search on a fixed sequence of tosses. The simulation illustrates terminal wealth for several bet sizes, but its winner is specific to that realized sequence and the tested increments.
A key correction is that average log growth is the logarithm of geometric average growth, not geometric average growth itself. Maximizing terminal wealth and maximizing its logarithm are equivalent for the same realized path because the logarithm is increasing. Kelly optimization, however, maximizes expected log wealth across possible outcomes, whereas maximizing expected wealth is a different objective and can select another bet size. The discussion also cautions that direct fitting to market returns may be fragile when rare events are underrepresented; estimated probabilities and tail behavior limit how reliably historical simulations guide portfolio sizing.
Key ideas
- For a fixed outcome sequence, maximizing terminal wealth also maximizes its logarithm.
- Kelly sizing maximizes expected log wealth, which is distinct from maximizing expected wealth.
- A finite grid search on one simulated path does not establish a generally optimal betting fraction.
- Kelly results depend on accurate outcome probabilities, and rare events can make estimates from market data unreliable.
Tags
Full text
# Is optimising for the Final Wealth is the same as optimising log of growth rate in Kelly Criterion?
# Is optimising for the Final Wealth is the same as optimising log of growth rate in Kelly Criterion?
A direct, brute force approach could be used to find the Optimal Portfolio.
Consider simple play. There's a biased coin with 55% probability of win. The simulator play as a single person with 100$ playing N = 1000 continuous games. Simulator tries all the possible betting fractions, and the one with the max win is chosen as optimal betting fraction.
$$\max_{fraction} W = \max_{fraction} \prod_{i=1..N}R_{i}$$
What worries me is that as the Wikipedia says Kelly Criterion optimises logarithm of growth, while this brute force simulation optimize the final amount of money:
> The Kelly bet size is found by maximizing the expected value of the logarithm of wealth, which is equivalent to maximizing the expected geometric growth rate.
But, I believe it's the same thing. Kelly Criterion tries to optimise the average rate of growth
$$R_{average} = W^{1/n} = (\prod_{i = 1..n}R_{i})^{1/n} = {1\over n} \sum_{i = 1..n}log(R_{i})$$
So, the difference between brute force and Kelly is
$$\max_{fraction} W \space \space \space \space \space vs. \space \space \space \max_{fraction} R_{average}$$
But, it should be the same thing, right? The parameters (the betting fraction) to optimise $W^{1/n}$ should be the same as to optimise $W$.
## The Kelly Solution
$$fraction = {p(b+1)-1 \over b} = {0.55(1+1) - 1 \over 1} = 0.1$$
The solution from the simulation is 0.11
## The code
Results
```
risky play with 0.9 fraction won 0
safe play with 0.05 fraction won 5756.17
optimal play with 0.11 fraction won 27601.98
```
Run and see it in action
```
// Biased coint with 55% probability of win, generated separately
// because I don't trust built-in random generator in JavaScript.
const tosses = [1, 0, 1, 0, 1, 0, 1, 0, 1, 1, 0, 1, 0, 0, 1, 1, 1, 1, 1, 1, 1, 0, 0, 0, 0, 1, 1, 0, 0, 0, 0, 0, 1, 0, 1, 1, 0, 0, 0, 1, 0, 0, 1, 0, 1, 1, 0, 1, 0, 0, 0, 0, 0, 1, 0, 0, 0, 1, 1, 1, 0, 0, 1, 1, 1, 0, 1, 1, 0, 0, 1, 0, 0, 1, 1, 1, 0, 1, 0, 1, 1, 0, 1, 0, 0, 0, 1, 1, 0, 1, 1, 1, 1, 0, 1, 0, 0, 1, 1, 0, 0, 1, 0, 0, 0, 0, 1, 0, 1, 1, 0, 0, 0, 1, 1, 0, 0, 0, 1, 0, 1, 0, 1, 0, 1, 1, 1, 1, 0, 0, 0, 0, 1, 1, 1, 1, 0, 0, 0, 0, 1, 1, 0, 0, 0, 0, 1, 0, 0, 0, 0, 1, 1, 0, 0, 1, 0, 0, 1, 1, 1, 1, 1, 1, 0, 0, 0, 0, 0, 0, 0, 1, 0, 1, 0, 1, 1, 0, 1, 1, 1, 0, 1, 1, 0, 0, 0, 1, 1, 1, 0, 1, 0, 0, 1, 0, 1, 0, 0, 0, 0, 1, 0, 0, 1, 0, 1, 1, 0, 0, 1, 1, 1, 0, 1, 0, 0, 0, 0, 0, 1, 1, 0, 0, 0, 1, 1, 1, 0, 0, 1, 0, 1, 0, 1, 1, 0, 1, 1, 1, 1, 1, 0, 0, 0, 0, 0, 0, 1, 1, 1, 1, 1, 1, 1, 1, 0, 0, 1, 1, 1, 0, 0, 0, 0, 1, 1, 0, 1, 1, 1, 0, 0, 1, 0, 1, 1, 0, 1, 1, 1, 1, 1, 0, 1, 0, 1, 1, 0, 1, 0, 0, 0, 0, 0, 1, 1, 0, 1, 1, 1, 0, 0, 1, 1, 1, 0, 0, 1, 0, 1, 1, 1, 1, 1, 0, 1, 1, 1, 1, 1, 0, 1, 1, 1, 0, 1, 0, 0, 0, 1, 0, 1, 0, 1, 1, 0, 1, 1, 0, 0, 0, 1, 1, 1, 1, 0, 1, 1, 1, 0, 0, 1, 1, 1, 1, 0, 1, 0, 1, 1, 1, 0, 1, 0, 1, 1, 0, 0, 0, 0, 1, 1, 1, 0, 1, 1, 1, 1, 0, 0, 1, 0, 1, 0, 0, 1, 0, 0, 1, 0, 1, 0, 0, 1, 1, 0, 0, 1, 1, 1, 1, 1, 1, 1, 0, 1, 1, 0, 1, 0, 1, 1, 1, 1, 1, 1, 1, 0, 0, 1, 0, 0, 1, 1, 0, 1, 0, 0, 0, 1, 1, 0, 0, 1, 1, 0, 0, 0, 1, 1, 0, 0, 1, 1, 1, 0, 1, 1, 0, 1, 1, 1, 1, 1, 0, 1, 0, 1, 0, 1, 0, 1, 1, 1, 1, 1, 1, 1, 0, 0, 1, 1, 0, 1, 1, 1, 1, 1, 1, 0, 1, 1, 1, 0, 1, 1, 0, 0, 1, 0, 0, 1, 1, 0, 1, 0, 0, 1, 1, 1, 1, 1, 1, 0, 1, 1, 0, 0, 0, 1, 1, 0, 0, 1, 0, 1, 1, 1, 0, 0, 0, 0, 0, 1, 0, 1, 1, 0, 0, 0, 0, 1, 1, 1, 0, 1, 0, 1, 0, 1, 1, 0, 0, 0, 0, 0, 1, 0, 1, 0, 0, 1, 1, 0, 0, 1, 1, 1, 1, 1, 1, 0, 1, 1, 1, 0, 1, 1, 1, 1, 1, 1, 0, 0, 1, 0, 1, 0, 1, 1, 0, 0, 1, 1, 1, 0, 0, 0, 1, 1, 1, 0, 1, 1, 1, 0, 0, 0, 0, 0, 1, 1, 1, 1, 1, 1, 1, 1, 1, 1, 0, 1, 0, 0, 1, 1, 0, 0, 0, 1, 1, 0, 0, 1, 0, 1, 0, 1, 0, 1, 1, 0, 0, 0, 1, 0, 0, 0, 0, 1, 0, 1, 1, 0, 1, 1, 1, 1, 0, 1, 1, 0, 1, 1, 1, 1, 0, 1, 1, 1, 1, 0, 0, 0, 1, 1, 1, 0, 1, 0, 0, 1, 0, 0, 1, 0, 0, 1, 0, 1, 0, 0, 1, 0, 1, 0, 0, 1, 0, 0, 1, 0, 0, 1, 1, 0, 0, 1, 1, 0, 1, 1, 0, 0, 1, 1, 0, 0, 0, 1, 1, 1, 0, 1, 1, 1, 1, 0, 0, 1, 1, 1, 0, 0, 0, 1, 0, 0, 1, 1, 1, 0, 0, 0, 1, 1, 0, 0, 1, 0, 0, 0, 0, 0, 1, 1, 1, 1, 0, 1, 0, 0, 0, 1, 0, 0, 0, 0, 1, 1, 0, 1, 0, 0, 1, 0, 1, 0, 1, 1, 1, 0, 0, 1, 0, 1, 1, 0, 1, 1, 1, 1, 1, 1, 0, 1, 1, 1, 1, 1, 0, 1, 1, 0, 1, 1, 0, 1, 0, 0, 1, 1, 0, 1, 1, 1, 0, 0, 0, 1, 0, 1, 1, 0, 1, 1, 0, 0, 0, 1, 1, 1, 1, 0, 0, 0, 1, 1, 1, 0, 0, 1, 0, 1, 0, 1, 0, 1, 1, 1, 1, 1, 1, 1, 0, 0, 1, 0, 0, 1, 1, 1, 1, 0, 0, 1, 1, 1, 0, 1, 1, 0, 1, 0, 0, 1, 1, 1, 0, 1, 1, 1, 0, 0, 0, 0, 1, 1, 1, 0, 0, 0, 1, 1, 1, 0, 1, 1, 1, 0, 0, 1, 1, 1, 1, 0, 1, 0, 1, 0, 1, 1, 0, 1, 0, 1, 1, 1, 1, 1, 0, 1, 0, 1, 1, 0, 1, 1, 0, 1, 0, 0, 1, 1, 1, 1, 1, 0, 0, 1, 1, 1, 1, 0, 0, 0, 0, 0, 1, 1, 0, 0, 0, 1, 1, 0, 1, 1, 1, 0, 1, 1, 1, 0, 1, 0, 1, 1, 1, 1, 0, 1, 1, 1, 1, 0, 0, 0, 1, 1, 1, 1, 0, 1, 0, 0, 1, 1, 1, 1, 0, 1, 1, 0, 1, 1, 0, 0, 1, 0, 1, 1, 0, 0, 1, 0, 1, 1, 0]
// Playing with 100$
const play = (fraction) => {
let money = 100
for (const toss of tosses) {
// Win when `toss == true`
money = toss == 1 ? money + money * fraction : money - money * fraction
}
return round(money)
}
// Playing two simple strategies
// - risky - always bet 0.9
// - safe - always bet 0.05
println(`risky play with ${0.9} fraction won ${play(0.9)}`)
println(`safe play with ${0.05} fraction won ${play(0.05)}`)
// Searching for optimal fraction
let max_win = 0, optimal_fraction = undefined
for (let fraction = 0.01; fraction <= 0.9; fraction += 0.01) {
const win = play(fraction)
// Optimization criteria - maximum win after N plays
const is_better = win > max_win
if (is_better) {
max_win = win
optimal_fraction = fraction
}
}
println(`optimal play with ${round(optimal_fraction)} fraction won ${max_win}`)
function println(msg) {
console.log(msg)
}
function round(v) { return Math.round(v * 100) / 100 }
```
## UPDATE
Code for classical Kelly Criterion, with the logarithm, playground
I guess I know why the logarithm is preferred. It's more computationally stable and won't overflow numbers with exponential growth. And the logarithm is kinda more smooth and easier to work with than raw growth.
```
// Biased coint with 55% probability of win, generated separately
// because I don't trust built-in random generator in JavaScript.
const tosses = [1, 0, 1, 0, 1, 0, 1, 0, 1, 1, 0, 1, 0, 0, 1, 1, 1, 1, 1, 1, 1, 0, 0, 0, 0, 1, 1, 0, 0, 0, 0, 0, 1, 0, 1, 1, 0, 0, 0, 1, 0, 0, 1, 0, 1, 1, 0, 1, 0, 0, 0, 0, 0, 1, 0, 0, 0, 1, 1, 1, 0, 0, 1, 1, 1, 0, 1, 1, 0, 0, 1, 0, 0, 1, 1, 1, 0, 1, 0, 1, 1, 0, 1, 0, 0, 0, 1, 1, 0, 1, 1, 1, 1, 0, 1, 0, 0, 1, 1, 0, 0, 1, 0, 0, 0, 0, 1, 0, 1, 1, 0, 0, 0, 1, 1, 0, 0, 0, 1, 0, 1, 0, 1, 0, 1, 1, 1, 1, 0, 0, 0, 0, 1, 1, 1, 1, 0, 0, 0, 0, 1, 1, 0, 0, 0, 0, 1, 0, 0, 0, 0, 1, 1, 0, 0, 1, 0, 0, 1, 1, 1, 1, 1, 1, 0, 0, 0, 0, 0, 0, 0, 1, 0, 1, 0, 1, 1, 0, 1, 1, 1, 0, 1, 1, 0, 0, 0, 1, 1, 1, 0, 1, 0, 0, 1, 0, 1, 0, 0, 0, 0, 1, 0, 0, 1, 0, 1, 1, 0, 0, 1, 1, 1, 0, 1, 0, 0, 0, 0, 0, 1, 1, 0, 0, 0, 1, 1, 1, 0, 0, 1, 0, 1, 0, 1, 1, 0, 1, 1, 1, 1, 1, 0, 0, 0, 0, 0, 0, 1, 1, 1, 1, 1, 1, 1, 1, 0, 0, 1, 1, 1, 0, 0, 0, 0, 1, 1, 0, 1, 1, 1, 0, 0, 1, 0, 1, 1, 0, 1, 1, 1, 1, 1, 0, 1, 0, 1, 1, 0, 1, 0, 0, 0, 0, 0, 1, 1, 0, 1, 1, 1, 0, 0, 1, 1, 1, 0, 0, 1, 0, 1, 1, 1, 1, 1, 0, 1, 1, 1, 1, 1, 0, 1, 1, 1, 0, 1, 0, 0, 0, 1, 0, 1, 0, 1, 1, 0, 1, 1, 0, 0, 0, 1, 1, 1, 1, 0, 1, 1, 1, 0, 0, 1, 1, 1, 1, 0, 1, 0, 1, 1, 1, 0, 1, 0, 1, 1, 0, 0, 0, 0, 1, 1, 1, 0, 1, 1, 1, 1, 0, 0, 1, 0, 1, 0, 0, 1, 0, 0, 1, 0, 1, 0, 0, 1, 1, 0, 0, 1, 1, 1, 1, 1, 1, 1, 0, 1, 1, 0, 1, 0, 1, 1, 1, 1, 1, 1, 1, 0, 0, 1, 0, 0, 1, 1, 0, 1, 0, 0, 0, 1, 1, 0, 0, 1, 1, 0, 0, 0, 1, 1, 0, 0, 1, 1, 1, 0, 1, 1, 0, 1, 1, 1, 1, 1, 0, 1, 0, 1, 0, 1, 0, 1, 1, 1, 1, 1, 1, 1, 0, 0, 1, 1, 0, 1, 1, 1, 1, 1, 1, 0, 1, 1, 1, 0, 1, 1, 0, 0, 1, 0, 0, 1, 1, 0, 1, 0, 0, 1, 1, 1, 1, 1, 1, 0, 1, 1, 0, 0, 0, 1, 1, 0, 0, 1, 0, 1, 1, 1, 0, 0, 0, 0, 0, 1, 0, 1, 1, 0, 0, 0, 0, 1, 1, 1, 0, 1, 0, 1, 0, 1, 1, 0, 0, 0, 0, 0, 1, 0, 1, 0, 0, 1, 1, 0, 0, 1, 1, 1, 1, 1, 1, 0, 1, 1, 1, 0, 1, 1, 1, 1, 1, 1, 0, 0, 1, 0, 1, 0, 1, 1, 0, 0, 1, 1, 1, 0, 0, 0, 1, 1, 1, 0, 1, 1, 1, 0, 0, 0, 0, 0, 1, 1, 1, 1, 1, 1, 1, 1, 1, 1, 0, 1, 0, 0, 1, 1, 0, 0, 0, 1, 1, 0, 0, 1, 0, 1, 0, 1, 0, 1, 1, 0, 0, 0, 1, 0, 0, 0, 0, 1, 0, 1, 1, 0, 1, 1, 1, 1, 0, 1, 1, 0, 1, 1, 1, 1, 0, 1, 1, 1, 1, 0, 0, 0, 1, 1, 1, 0, 1, 0, 0, 1, 0, 0, 1, 0, 0, 1, 0, 1, 0, 0, 1, 0, 1, 0, 0, 1, 0, 0, 1, 0, 0, 1, 1, 0, 0, 1, 1, 0, 1, 1, 0, 0, 1, 1, 0, 0, 0, 1, 1, 1, 0, 1, 1, 1, 1, 0, 0, 1, 1, 1, 0, 0, 0, 1, 0, 0, 1, 1, 1, 0, 0, 0, 1, 1, 0, 0, 1, 0, 0, 0, 0, 0, 1, 1, 1, 1, 0, 1, 0, 0, 0, 1, 0, 0, 0, 0, 1, 1, 0, 1, 0, 0, 1, 0, 1, 0, 1, 1, 1, 0, 0, 1, 0, 1, 1, 0, 1, 1, 1, 1, 1, 1, 0, 1, 1, 1, 1, 1, 0, 1, 1, 0, 1, 1, 0, 1, 0, 0, 1, 1, 0, 1, 1, 1, 0, 0, 0, 1, 0, 1, 1, 0, 1, 1, 0, 0, 0, 1, 1, 1, 1, 0, 0, 0, 1, 1, 1, 0, 0, 1, 0, 1, 0, 1, 0, 1, 1, 1, 1, 1, 1, 1, 0, 0, 1, 0, 0, 1, 1, 1, 1, 0, 0, 1, 1, 1, 0, 1, 1, 0, 1, 0, 0, 1, 1, 1, 0, 1, 1, 1, 0, 0, 0, 0, 1, 1, 1, 0, 0, 0, 1, 1, 1, 0, 1, 1, 1, 0, 0, 1, 1, 1, 1, 0, 1, 0, 1, 0, 1, 1, 0, 1, 0, 1, 1, 1, 1, 1, 0, 1, 0, 1, 1, 0, 1, 1, 0, 1, 0, 0, 1, 1, 1, 1, 1, 0, 0, 1, 1, 1, 1, 0, 0, 0, 0, 0, 1, 1, 0, 0, 0, 1, 1, 0, 1, 1, 1, 0, 1, 1, 1, 0, 1, 0, 1, 1, 1, 1, 0, 1, 1, 1, 1, 0, 0, 0, 1, 1, 1, 1, 0, 1, 0, 0, 1, 1, 1, 1, 0, 1, 1, 0, 1, 1, 0, 0, 1, 0, 1, 1, 0, 0, 1, 0, 1, 1, 0]
// Playing with 100$
const play = (fraction) => {
let sum_ln = 0
for (const toss of tosses) {
// Win when `toss == true`
let rate = toss == 1 ? (1 + fraction) : (1 - fraction)
sum_ln += Math.log(rate)
}
return sum_ln / tosses.length
}
// Playing two simple strategies
// - risky - always bet 0.9
// - safe - always bet 0.05
println(`risky play with ${0.9} fraction won ${play(0.9)}`)
println(`safe play with ${0.05} fraction won ${play(0.05)}`)
// Searching for optimal fraction
let max_win = 0, optimal_fraction = undefined
for (let fraction = 0.01; fraction <= 0.9; fraction += 0.01) {
const win = play(fraction)
// Optimization criteria - maximum win after N plays
const is_better = win > max_win
if (is_better) {
max_win = win
optimal_fraction = fraction
}
}
println(`optimal play with ${round(optimal_fraction)} fraction won ${max_win}`)
function println(msg) {
console.log(msg)
}
function round(v) { return Math.round(v * 100) / 100 }
```
## Answer by AvidLearner (score 1, accepted)
https://quant.stackexchange.com/a/61983
As you suspect, you have a mistake. You say that:
> $$R_{average} = W^{1/n} = (\prod_{i = 1..n}R_{i})^{1/n} = {1\over n} \sum_{i = 1..n}log(R_{i}).$$
Notice that you took a log and kept the equation sign. What you really meant is
$$\log R_{average} = {1\over n} \sum_{i = 1..n}log(R_{i}).$$ So you don't really compare
> $$\max_{f} W \space \space \space \space \space vs. \space \space \space \max_{f} R_{average},$$
but rather $$\max_{f} W \space \space \space \space \space vs. \space \space \space \max_{f} \log R_{average}= \frac 1 n \max_{f} \log W.$$
Finally, what confuses you is that
> But, it should be the same thing, right? The parameters (the betting fraction) to optimise $W^{1/n}$ should be the same as to optimise $W$.
Remember that when you optimize, you care about $\mathbb E[W]$. You see, $\text{argmax}_f \mathbb{E}[W] \neq \text{argmax}_f \mathbb{E}[\log W] $.
## Answer by danuker (score 0)
https://quant.stackexchange.com/a/71699
> could be used to find the Optimal Portfolio
I believe you will get a bad fit, because you are underestimating rare events, because they are rare in the data.
To see for yourself the influence of this, remove the most extreme returns in your data, and re-run your analyses, and compare to the results from before. A lot of change should give you a hint of the dangers.
I tried to do this "direct fitting" also, and I found the law of large numbers does not apply to market returns, and Kelly does not give you an optimal portfolio if you do not give it correct probabilities.
See my gained wisdom here. Read everything Taleb has to say here.Shown in full with attribution under the source's licence. Licence: CC BY-SA 4.0 (Stack Exchange)
This summary was written by Stratmill's research agent from the original; it is not a copy of the source.