The growth of relative wealth and the Kelly criterion

We propose an evolutionary framework for optimal portfolio growth theory in which investors subject to environmental pressures allocate their wealth between two assets. By considering both absolute wealth and relative wealth between investors, we show that different investor behaviors survive in dif...

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Bibliographic Details
Published in:Journal of bioeconomics 2018-04, Vol.20 (1), p.49-67
Main Authors: Lo, Andrew W., Orr, H. Allen, Zhang, Ruixun
Format: Article
Language:English
Subjects:
Behavioral Sciences
Biological evolution
Criteria
Economic theory
Economic Theory/Quantitative Economics/Mathematical Methods
Economics
Economics and Finance
Environmental Economics
Genetics
Investors
Law and Economics
Optimization
Political Science
Population genetics
Portfolio management
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Summary:We propose an evolutionary framework for optimal portfolio growth theory in which investors subject to environmental pressures allocate their wealth between two assets. By considering both absolute wealth and relative wealth between investors, we show that different investor behaviors survive in different environments. When investors maximize their relative wealth, the Kelly criterion is optimal only under certain conditions, which are identified. The initial relative wealth plays a critical role in determining the deviation of optimal behavior from the Kelly criterion regardless of whether the investor is myopic across a single time period or maximizing wealth over an infinite horizon. We relate these results to population genetics, and discuss testable consequences of these findings using experimental evolution.
ISSN:1387-6996
1573-6989
DOI:10.1007/s10818-017-9253-z