Position Sizing

Position Sizing

Position sizing determines how much capital to risk per trade -- the single most important factor in long-term survival.

Sizing Methods

1. Fixed Percentage Risk (Default)

Quantity = Risk Budget / (abs(Entry - Stop) × contract multiplier + estimated per-unit stop slippage/cost)

Example: $10,000 account, 1% risk, entry $100, stop $95 => $100 / $5 = 20 shares.

2. Volatility-Based (ATR)

Position Size = (Account x Risk%) / (ATR x Multiplier)

Select and validate the ATR multiple per instrument and strategy. Wider stops reduce quantity for the same risk budget; they do not create safety by themselves.

3. ATR-Hybrid

Combines fixed % risk with ATR-based stop distance: Position Size = (Account x Risk%) / (ATR x Multiplier). Adapts to volatility while maintaining consistent dollar risk per trade.

4. Fractional Kelly Criterion

Full Kelly % = W - (1 - W) / R where W = win rate, R = avg win / avg loss.

Kelly assumes a positive edge and sufficiently known outcome distribution. Estimate uncertainty, nonstationarity, tail loss, dependence, and constraints; use a conservative fraction only if mandate-approved and cap it by drawdown, liquidity, margin, and concentration limits. Otherwise use the fixed risk budget.

Method Selection

Default to the portfolio's remaining dollar-risk budget and a structural/volatility stop. Use volatility scaling for comparable risk across assets. Consider fractional Kelly only with stable, net-of-cost, distribution-level evidence; never choose sizing from trade style or a small win-rate sample.

Risk Limits

Read single-trade, strategy, factor, venue, margin, daily, and drawdown limits from the portfolio mandate. Include existing orders/positions, correlated gap scenarios, borrow/funding, and scheduled-event stress. If a limit is unavailable, do not manufacture one—request it or return no size.

Workflow

1. Get entry and stop loss from the technical analyst's analysis
2. Check committed risk and balance via get_portfolio_risk_state() (remaining R budget, margin used)
3. Check for correlated positions -- are existing positions in correlated assets?
4. Select sizing method from mandate and validated strategy assumptions
5. Preview the size via preview_position_size(symbol=<symbol>, side=<BUY|SELL>, entry=<entry>, stop_loss=<stop>, risk_usd=<dollars>) — returns quantity, leverage, notional. Use it to sanity-check before creating the insight.
6. Verify all limits -- single trade, aggregate factor/scenario loss, liquidity, margin, and drawdown budget
7. Stress events -- size to the approved gap scenario or return no trade when risk is unbounded
8. Create the insight via create_trading_insight(symbol, side, entry, stop_loss, take_profits, trade_type, risk_usd=<dollars>) — sizing is recomputed server-side; preview_position_size is advisory only.

Evidence and Validation

• Treat the setup as a testable hypothesis, not a prediction. Define thresholds, entry, invalidation, and exit before evaluating outcomes.
• Calibrate on the same instrument, venue, session, and timeframe. Use closed candles and a held-out or walk-forward sample; record every variant tried.
• Include spread, fees, slippage, borrow or funding, partial fills, and latency. Reject the setup when net expectancy is not positive or depends on one narrow parameter.
• Return observed inputs, missing data, cost assumptions, entry, invalidation, exit, and a valid, watch, or no-trade status.
• Research basis: Kelly's original paper assumes known probabilities and repeated favorable bets; risk-constrained Kelly adds explicit drawdown control.

Key Rules

• Do not use Kelly without positive, stable, net-of-cost edge estimates and uncertainty controls.
• NEVER size based on conviction -- "I'm really sure" is not a sizing method
• NEVER increase size after losses to "make it back" -- revenge sizing is the fastest path to ruin
• Size scheduled-event exposure from the mandate's gap/stress loss.
• Aggregate correlated and common-factor positions with current estimates and adverse scenarios.
• Use the same method consistently; do not switch based on recent results
• Round down to executable lot size and recheck notional, margin, stop slippage, and residual risk.

Related Skills

• correlation-risk -- correlated positions must be sized as combined exposure
• stop-loss-strategies -- stop distance is a direct input to position size calculation