The State of Research on Markets for Sports Betting and Suggested Future Directions
Sauer, Raymond D., Journal of Economics and Finance
Studies of markets for sports betting can be a rich source of knowledge on the process of price formation and the information content of market prices. But recent research in this field examines questions of a technical nature, questions of interest mostly to active participants in the literature. A change in direction, motivated by creative use of the efficiency hypothesis, may deliver insights that would be valuable to the profession in general. Some preliminary analyses along these lines are presented in the hope of stimulating new lines of inquiry in the field.
Introduction: The State of the Literature
This paper is written from the perspective of a writer who, about a decade ago, began absorbing the economic literature on wagering markets and developing an interpretation of its findings. [See Sauer (1998).] Although any literature is a mixed bag of both insight and error, the early papers on wagering markets were a remarkable lot. They combined data from unique and valuable institutional settings with appropriate theoretical and econometric tools. Clever exploitation of this "natural laboratory" created a rich set of findings on the nature of prices in these markets. The central theme of this literature is the efficient markets hypothesis. In this context, efficiency implies that odds or prices summarize all that is known about an event, and more generally, the absence of profitable betting opportunities.
The early literature established that efficiency was a very useful benchmark for actual prices observed in betting markets. Although there are many published exceptions that reject efficient pricing, it is the benchmark result that prices are approximately efficient that yields insights to which economics should be proud to lay claim. For example, odds at the racetrack imbed subjective estimates of the probability of winning that are (a) quite close to their empirical counterparts, (b) similarly close to those obtained using sophisticated statistical methods, and (c) very difficult to exploit on a systematic basis. In point spread markets for football and basketball games, the spread is, to a first approximation, an unbiased predictor of the score difference in a game. These results are all straightforward extensions of the hypothesis of efficient pricing. While they may be surprising findings to those tied to the principle that "all bettors are fools," they should be second nature to scholars with an understanding of economics.
The early literature is an important and underappreciated body of work, yet the most interesting papers are those whose results depart in interesting ways from canonical representations of the efficiency hypothesis. Papers documenting price adjustments, differential rates of return across betting time and bettor type, and optimizing responses to inside information by price-makers together make it clear that the formation of anything approaching an efficient price does not take place in a vacuum. Prices, at least at this point in history, are not formed in a frictionless world with complete and fully dispersed information. Rather, the process of pricing itself, as Hayek (1945) emphasized, aggregates, creates, and communicates information.
We need to know more about this process. While this topic was extensively explored in many early papers, including Asch ct al. (1982), Crafts (1985), Brown and Sauer (1993), Gandar et al. (1998), it is puzzlingly absent in much of the recent literature. In fact, the literature on sports betting has grown somewhat stale, as evidenced by the lack of published articles in the leading journals in recent years. Today's typical paper fine-tunes a specification from an existing model, or as is even more common, conducts efficiency/profitability analysis in a limited, narrow sense.
More creative approaches are available within the existing paradigm. Most important, creative application of the efficient markets hypothesis can reveal information in ways that are otherwise quite difficult. …