Working Paper: CEPR ID: DP4092
Authors: Marco Ottaviani; Peter Norman Sørensen
Abstract: According to the favorite-longshot bias observed in pari-mutuel betting, the final distribution of bets overestimates the winning chance of longshots. This Paper proposes an explanation of this bias based on late betting by small privately informed bettors. These bettors have an incentive to protect their private information and bet at the last minute, without knowing the bets simultaneously placed by the others. Once the distribution of bets is revealed, if bets are more informative than noisy, all bettors can recognize that the longshot is less likely to win than indicated by the distribution of bets.
Keywords: favorite-longshot bias; parimutuel betting; private information; timing
JEL Codes: D43; D82; D84; G13; L83
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| late informed betting by small privately informed bettors (D80) | overestimation of longshot winning chances (D80) |
| distribution of bets revealed (C46) | recognition that longshot is less likely to win (D80) |
| number of bettors increases (L83) | more extreme market odds (G13) |
| noise (lack of information) (D89) | more extreme market odds than posterior odds (D81) |
| information asymmetry (D82) | betting behavior (L83) |
| betting behavior (L83) | market outcomes (P42) |