4 posts • joined Wednesday 21st September 2011 10:04 GMT
I've always noted that mathmatcially in E=mc^2 that c doesn't actually have to be a real number it could be a multiple of the imaginary number, i, and what on Earth (pun intended) does that mean if the total universe's E is a constant? Is E= m1c^2 + m2(ci)^2 actually helpful (the dark matter conundrum springs to mind here as m2 being negative in this case would reduce the 'observable net universe's mass')
At which point I decide to get back to Call of Duty and not worry about relativity effects on my assault rifle bullets trajectory as I doubt it's been properly modelled by Treyarch...
I'm actually a fan of simplification (i'm an engineer by training so appreciate that the wonderful bodge of It's linear over a small enough range" is a great get out of jail free card) but you do need to point out when you're simplifying or bending the truth so that those in the know can acknowledge this is what you're doing otherwise a lot of credibility gets lost.
A good example of this was in GCSE physics when teachers would swear blind that light is just a wave..... oh dear.....
Probably true but the betting market offers some really intriguing insights into how much of the economic theory used to build trading models is probably totally wrong.
For example: Everyone knows that potential reward rises in line with risk right? It's a key component of efficient market theory and is used practically in how credit card APR's are set, mortgage rates etc. etc.
Well in the betting markets it's completely the inverse for the market participant (read trader)
I'll give you an example: Say there are two blokes who know absolutely nothing about horses. Each starts with £1m and bets on every single race over the year such that they've wagered the full £1m over lets say for argument 100,000 races so volatility will be significantly smoothed out.
Bloke 1 only ever backed the favourite or joint favourite
Bloke 2 only ever backed the longest priced horse in each race.
At the end of the year Bloke 1 will have left of his £1m about £950k
At the end of the year Bloke 2 will have left of his £1m about £200k or even less.
Why is this? Both will have less than they started with due to the bookie's overround but why the difference?
Basically bookies price the favourite at a lower expected margin than long shots (usually only 3-5% off the underlying mathematical odds), so your 1/1 favourite is probably actually about that, whereas that 100/1 long shot is actually realistically about 200/1 or longer.
The bookie doesn't price it longer as you don't attract any more money as the elasticity is too low so what's the point.
You could say betting markets are an anomally and financial markets are different but I very much suspect not.
Nice article but many facts simply wrong
"A bookie will always have a balanced book: whichever horse comes in, the house wins (same with casinos). "
Having worked for a major FTSE bookmaker for many years your bookmaker (and casino) analogy is quite simply totally wrong. Bookmakers in reality about 99.99% of the time never have a balanced book on an event, it's where the expression 'the bookies took a beating on that one' comes from.
To be correct you should have said "Despite bookies almost never having a balanced book on an individual race they price the available odds to ensure that they have a long run 'edge' built into all their books to ensure a long run profit margin, however significant day to day volatility can see the daily margin swing wildly from negative to positive numbers"
For example lets say I price my horse race to have an overround of 10%, in English that means that I've basically moved all the odds down such that I have a 10% mathematical advantage(the overround) in the book. If (AND IT'S AN ENORMOUS IF) £100 is distributed across all the horses in the race as per the actual underlying odds I'll have my balanced book andf make £10 whatever the outcome.
However life's not like that in reality, about 60% of the money ends up on the favourite and about 40% on the rest of the field. So if the favourite comes in what tends to happen is that the bookie actually truly, really loses money on that one race and the books 'actual' margin goes negative usually to something like -20%.
Howveer lets say the favourite goes down at the first fence, the bookie then makes out like a bandit and gets a margin of +say 40%, on that race.
Over many races the ups and downs smooth out and most bookies tend to target a horse racing margin of around 15% over the long term.
It's a much misunderstood area and requires bookies to be very careful about their own risk hedging, there's always a potential daily loss limit that will be tolerated before the bookie himself starts hedging off (usually back onto Betfair or between each other).
It's worth noting that the Tote system works differently as it uses the weight of money on each horse itself to calculate the underlying odds and then takes a rake from the pot of money as it's fee.
The Tote has no risk from the race itself as it's fee is independent of any combination of outcomes (ignoring cancellations, Acts of God etc.), but it's not balancing it's book as technically it's not operating a 'book'
Arbitrage is also not totally risk free as you describe, there's a risk that your buy and sell orders don't execute properly, liquidity is not sufficient to cover one side of the trade or the other, counter party risk etc. etc..
Arbitrage can be very low risk but it's not NO RISK.
Hope that helps some people.
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