The Favorite-Longshot Midas
42 Pages Posted: 14 Nov 2018
Date Written: June 4, 2018
The favorite-longshot bias in horse-race betting markets, previously attributed to speculation or irrationality, instead results from profitable deception. Racetracks provide bettors with predictions that overestimate the chances of longshots and underestimate the chances of favorites. This deception creates arbitrage opportunities, which the track monetizes by taxing the arbitrageurs. Similar schemes enrich other market makers, such as investment banks during the boom in mortgage-backed securities.
Keywords: favorite-longshot bias, market makers, deception, behavioral industrial organization, betting markets
JEL Classification: D22, D82, D83, L83
Suggested Citation: Suggested Citation