Explaining the Favorite-Longshot Bias: Is it Risk-Love or Misperceptions?

33 Pages Posted: 2 May 2010  

Erik Snowberg

California Institute of Technology - Division of the Humanities and Social Sciences; National Bureau of Economic Research (NBER)

Justin Wolfers

University of Michigan at Ann Arbor - Department of Economics; University of Michigan at Ann Arbor - Gerald R. Ford School of Public Policy; The University of Sydney - Discipline of Economics; Brookings Institution - Economic Studies Program; Peter G. Peterson Institute for International Economics; National Bureau of Economic Research (NBER); IZA Institute of Labor Economics; Centre for Economic Policy Research (CEPR); CESifo (Center for Economic Studies and Ifo Institute); Kiel Institute for the World Economy

Multiple version iconThere are 3 versions of this paper

Date Written: April 2010

Abstract

The favorite-longshot bias describes the longstanding empirical regularity that betting odds provide biased estimates of the probability of a horse winning - longshots are overbet, while favorites are underbet. Neoclassical explanations of this phenomenon focus on rational gamblers who overbet longshots due to risk-love. The competing behavioral explanations emphasize the role of misperceptions of probabilities. We provide novel empirical tests that can discriminate between these competing theories by assessing whether the models that explain gamblers’ choices in one part of their choice set (betting to win) can also rationalize decisions over a wider choice set, including compound bets in the exacta, quinella or trifecta pools. Using a new, large-scale dataset ideally suited to implement these tests we find evidence in favour of the view that misperceptions of probability drive the favorite-longshot bias, as suggested by Prospect Theory.

Keywords: pricing under risk, probability, weighting, compound lotteries, favourite-longshot bias

JEL Classification: D03, D49, G12, L83

Suggested Citation

Snowberg, Erik and Wolfers, Justin, Explaining the Favorite-Longshot Bias: Is it Risk-Love or Misperceptions? (April 2010). CESifo Working Paper Series No. 3029. Available at SSRN: https://ssrn.com/abstract=1597604

Erik Snowberg

California Institute of Technology - Division of the Humanities and Social Sciences ( email )

1200 East California Blvd.
Pasadena, CA 91125
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
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Justin Wolfers (Contact Author)

University of Michigan at Ann Arbor - Department of Economics ( email )

611 Tappan Street
Ann Arbor, MI 48109-1220
United States
734-764-2447 (Phone)

HOME PAGE: http://www.nber.org/~jwolfers

University of Michigan at Ann Arbor - Gerald R. Ford School of Public Policy ( email )

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Ann Arbor, MI 48109
United States
734-615-6846 (Phone)

HOME PAGE: http://www.nber.org/~jwolfers

The University of Sydney - Discipline of Economics ( email )

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Australia

Brookings Institution - Economic Studies Program ( email )

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Washington, DC 20036
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HOME PAGE: http://www.nber.org/~jwolfers

Peter G. Peterson Institute for International Economics ( email )

1750 Massachusetts Avenue, NW
Washington, DC 20036
United States

National Bureau of Economic Research (NBER) ( email )

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Cambridge, MA 02138
United States

HOME PAGE: http://www.nber.org/~jwolfers

IZA Institute of Labor Economics

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Centre for Economic Policy Research (CEPR)

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Kiel Institute for the World Economy ( email )

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Kiel, D-24100
Germany

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