Thursday, September 10, 2009

Overbetting Longshots

HT: Andrew Gelman (link to the ref here)
we find evidence in favor of the view that misperceptions of probability drive the favorite-longshot bias, as suggested by Prospect Theory
I.e. it's not a love of risk in the utility functions of gamblers, it's statistical illiteracy. They can't figure out that a 29:1 longshot has at best a 1/30 probability of winning (if the odds are "fair").
One problem I have is that, to Gelman and others this research contradicts theories of rational choice. Not so. It suggests that people are either (a) poorly informed; or (b) process information poorly. To quote a Larry Summers finance paper, “THERE ARE IDIOTS. Look around.”
Go Chiefs!

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