Position Sizing: The Most Important Decision

The Most Important Decision You'll Make

Here's a question that will change how you think about trading: If you had a coin that landed heads 55% of the time, how much of your bankroll should you bet on each flip?

Most traders focus obsessively on finding better signals - that extra 1% win rate, that perfect indicator combination. But the math reveals something uncomfortable: position sizing has more impact on your final results than your signal quality.

A mediocre strategy with optimal position sizing will outperform an excellent strategy with poor position sizing. Every single time. Over enough trades, it's not even close.

The Ruin Problem

Before we talk about how much to bet, let's understand why this matters so much. Consider two traders:

Trader A has a 60% win rate strategy and bets 25% of their account on each trade.

Trader B has a 55% win rate strategy and bets 5% of their account on each trade.

Who wins?

Run the simulation a thousand times. Trader B survives and compounds. Trader A blows up. The superior strategy loses because the sizing was suicidal.

This is called the risk of ruin - the probability that a sequence of losses wipes out your account before your edge has time to work. With large position sizes, even a positive expectancy system can hit enough consecutive losses to end you.

The math is brutal: at 25% risk per trade, you need only 4 consecutive losses to lose 68% of your account. At 5% risk, those same 4 losses cost you only 19%.

The Kelly Criterion

In 1956, a Bell Labs researcher named John Kelly solved the optimal betting problem. The Kelly Criterion gives you the mathematically optimal bet size to maximize long-term growth:

Kelly % = (Win Rate × Average Win / Average Loss) - (1 - Win Rate)
         ÷ (Average Win / Average Loss)

Or simplified when wins and losses are equal size:

Kelly % = (2 × Win Rate) - 1

For our 55% win rate coin flip with equal payoffs:

• •Kelly % = (2 × 0.55) - 1 = 0.10 = 10%

This means betting exactly 10% maximizes long-term growth. Bet more and you risk ruin. Bet less and you leave money on the table.

Why Full Kelly Is Dangerous

Here's what the textbooks don't emphasize: Full Kelly is theoretically optimal but practically insane. It assumes you know your exact edge, which you never do. It assumes your edge is constant, which it never is. And it produces stomach-churning drawdowns that most humans can't tolerate.

At full Kelly sizing, expect 50% drawdowns regularly. That's mathematically normal. Can you handle watching half your account disappear knowing you're "playing correctly"?

Most traders can't. And when they can't handle it, they make emotional decisions that destroy the mathematical edge.

The Half Kelly Solution

Professional gamblers and quantitative traders almost universally use Half Kelly or even Quarter Kelly. You sacrifice some theoretical growth for dramatically reduced risk of ruin and much smoother equity curves.

Half Kelly gives you 75% of the growth with a fraction of the pain. For a 55% win rate equal-payoff system, that means betting 5% instead of 10%.

The Volatility Adjustment

Here's where crypto makes things complicated. A 5% position in Bitcoin can move 10% in a day. A 5% position in a altcoin can move 50%.

You need to adjust position size for volatility. The concept is called volatility normalization - you want each trade to have roughly the same dollar risk, regardless of the asset's volatility.

Position Size = (Risk Per Trade) / (Asset Volatility × Price)

If you're willing to risk 1% of your account and Bitcoin's daily range is 3%, your position might be 33% of account. But if SOL's daily range is 8%, your position should be only 12.5% to have equivalent risk.

This is why professional traders talk about "risk units" rather than position sizes.

Practical Position Sizing Formula

Here's the formula we use at TargetHit:

Position Size = (Account Equity × Risk %) / (Entry Price × Stop Distance %)

Example:

• •Account: $10,000
• •Risk per trade: 1%
• •Entry: $100,000 BTC
• •Stop: 2% below entry

Position Size = ($10,000 × 0.01) / ($100,000 × 0.02) = $100 / $2,000 = 0.05 BTC (worth $5,000, or 50% position)

This ensures your maximum loss on this trade is $100 (1% of account), regardless of the asset or stop distance.

Scaling With Confidence

Not all signals are equal. Some have stronger statistical backing than others. Some occur in more favorable market conditions. Sophisticated position sizing accounts for this.

When we have high-confidence signals (multiple edges agreeing, favorable regime, large historical sample), we size up. When signals are borderline, we size down.

The key: your confidence scaling must be based on measurable criteria, not gut feel. If "high confidence" just means "I really like this one," you've reintroduced discretion and destroyed your edge.

The Correlation Trap

Position sizing gets more complex when you hold multiple positions. Five 2% risk trades aren't 10% total risk if they're all correlated.

In crypto, most assets move together during market stress. That beautiful portfolio of BTC, ETH, and SOL? When the market crashes, they all crash together. Your "diversified" 6% exposure becomes 6% exposure to a single risk factor.

We'll cover portfolio-level risk in the next lesson, but the key insight here is: position size based on your total correlated exposure, not individual positions.

Common Position Sizing Mistakes

Mistake 1: Fixed position sizes. Betting the same dollar amount regardless of account size means you're under-betting when the account grows and over-betting after losses.

Mistake 2: Ignoring volatility. A 10% position in BTC and 10% position in a small-cap altcoin have vastly different risk profiles.

Mistake 3: Revenge sizing. Increasing size after losses to "make it back" is the fastest path to ruin. Your position size should decrease after losses as your account shrinks.

Mistake 4: Scaling too fast. Account goes up 50%? Great! But don't immediately 1.5× your position sizes. Give the system time to prove the gains are real.

Implementation: Start Conservative

Here's the uncomfortable truth: you probably don't know your exact win rate and profit factor. You have estimates. Those estimates have uncertainty.

Given uncertainty, bet smaller. Way smaller than you think.

Start with 0.5% risk per trade. Not 2%, not 1%. Half a percent. Trade that for months. Track everything. When you have real data, you can adjust.

This feels painfully slow when everyone on Twitter is posting 100x gains. But those posters either got lucky (unsustainable) or they're lying (common). The traders who survive for decades are the ones who respected position sizing from day one.

The Takeaway

Position sizing is where the math of trading meets the psychology of survival. Get it wrong and no strategy will save you. Get it right and even mediocre strategies become profitable.

Before you spend another hour looking for a better entry signal, ask yourself: is your position sizing actually optimal? The answer will impact your returns more than any indicator ever could.

In the next lesson, we'll tackle what happens when even optimal sizing leads to drawdowns - and how to survive them.