On Thu, Sep 18, 2014 at 7:19 AM, Barry Glazer b.glazer@att.net [vpFREE] <vpFREE@yahoogroups.com> wrote:
Suppose you come to me for a job and we sign an employment contract stating I pay you $500 per day.I understand (conceptually, if not mathematically) the Kelly principle, but have not heard about "certainty equivalent" before. Can someone explain that to me (again, conceptually). If one's bankroll is NOT large enough to properly qualify as an adequate "Kelly" bankroll, I understand that you have less than optimal chance of doubling bankroll, but does that situation also change the way you should play, or are plays of higher expectation still preferred over those of lower expectation in every situation?
You have an EV of $500 per day. Simple enough.
I then point out the clause in the contract saying that after I pay you the $500 per day, we flip a coin for $1000.
You still have an EV of $500 per day. But suddenly, it's very risky for you.
So I point out the next clause in the contract saying you can negotiate a lower amount per day to be paid so you can avoid the risk. Suppose we then agree I'll pay you $400 per day instead of $500 and we'll skip the coin toss.
$400 is your certainty equivalent. You have a $500 EV but you'll accept less to avoid the risk. Depending on how big a bankroll you have, you may settle for more or less of a difference.
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Posted by: King Fish <vpkingfish@gmail.com>
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