Thursday, May 07, 2009

SSRN-A Model of Casino Gambling by Nicholas Barberis

GREAT STUFF!!! Barberis uses prospect theory to help explain behavior at casinos.

SSRN-A Model of Casino Gambling by Nicholas Barberis:

From the abstract:
"...prospect theory can offer a surprisingly rich theory of gambling, one that captures many features of actual gambling behavior. First, we demonstrate that, for a wide range of parameter values, a prospect theory agent would be willing to gamble in a casino, even if the casino only offers bets with zero or negative expected value. Second, we show that prospect theory predicts a plausible time inconsistency: at the moment he enters a casino, a prospect theory agent
plans to follow one particular gambling strategy; but after he enters, he wants to switch to a different strategy. The model therefore predicts heterogeneity in gambling behavior: how a gambler behaves depends on whether he is aware of the time-inconsistency; and, if he is aware of it, on whether he is able to commit, in advance, to his initial plan of action."
One look in (which alone is worth the price of admission!):
"What is the intuition for why, in spite of loss aversion, a prospect theory agent might
still be willing to enter a casino? Consider a casino that offers only zero expected value bets
– specifically, 50:50 bets to win or lose some fixed amount $h – and suppose that the agent
makes decisions by maximizing the cumulative prospect theory utility of his accumulated
winnings or losses at the moment he leaves the casino. We show that, if the agent enters
the casino, his preferred plan is to gamble as long as possible if he is winning, but to stop
gambling and leave the casino if he starts accumulating losses. An important property of this
plan is that, even though the casino offers only 50:50 bets, the distribution of the agent’s
perceived overall casino winnings becomes positively skewed: by stopping once he starts
accumulating losses, the agent limits his downside; and by continuing to gamble when he is
winning, he retains substantial upside."

I would HIGHLY recommend downloading the whole thing if you have ever wondered why people go to casinos (as I have!)

Barberis, Nicholas,A Model of Casino Gambling(May 3, 2009). Available at SSRN:


HC said...

I always thought that the prospect theory was based on the casino gambling psychology and not the other way around.

Online Casinos said...

This is a great post indeed! Nice observation too! Yes.. admit that it’s all about the gamblers’ psychology, but isn’t it an addiction too? Rightly said HC…gamblers’ psychology is the thing. But addiction too.

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