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Rational Decision-Making under Uncertainty: Observed Betting Patterns on a Biased Coin

8 Pages Posted: 25 Oct 2016  

Date Written: October 19, 2016

Abstract

What would you do if you were invited to play a game where you were given $25 and allowed to place bets for 30 minutes on a coin that you were told was biased to come up heads 60% of the time? This is exactly what we did, gathering 61 young, quantitatively trained men and women to play this game. The results, in a nutshell, were that the majority of these 61 players didn’t place their bets very well, displaying a broad panoply of behaviorial and cognitive biases. About 30% of the subjects actually went bust, losing their full $25 stake. We also discuss optimal betting strategies, valuation of the opportunity to play the game and its similarities to investing in the stock market. The main implication of our study is that people need to be better educated and trained in how to approach decision making under uncertainty. If these quantitatively trained players, playing the simplest game we can think of involving uncertainty and favourable odds, didn’t play well, what hope is there for the rest of us when it comes to playing the biggest and most important game of all: investing our savings? In the words of Ed Thorp, who gave us helpful feedback on our research: ‘This is a great experiment for many reasons. It ought to become part of the basic education of anyone interested in finance or gambling.’

Keywords: Decision Making under Uncertainty, Risk, Uncertainty, Utility, Risk Aversion, Kelly, Gambling, Betting, Coin Flip, Market Anomalies, Return Predictability, Behavioral Finance, Market Timing, Gamblers Fallacy, St Petersburg Paradox, CRRA

JEL Classification: B12, B16, B20, C00, C10, C11, C50, C57, C73, D03, D81, D83, E00, G00, G02, G11, G12, G14, G17, G23

Suggested Citation

Haghani, Victor and Dewey, Richard, Rational Decision-Making under Uncertainty: Observed Betting Patterns on a Biased Coin (October 19, 2016). Available at SSRN: https://ssrn.com/abstract=2856963

Victor Haghani (Contact Author)

Elm Partners ( email )

1630 Willow View Drive
PO Box 1417
Wilson, WY 83014

HOME PAGE: http://www.elmfunds.com

Richard Dewey

Pimco ( email )

United States

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