Irrational Lottery Hysteria

By Ryan Snefsky

Over the last several days, I’ve heard some pretty ridiculous thoughts, statements, and ideas surrounding the lottery hysteria. Here are some of the best ones I’ve heard so far.

1. It makes more sense to play the lottery when you have less money because you need the money more. Furthermore, that’s why you see so many lottery winners that do not have a lot of money. Nope. Mathematically, it actually makes a lot more sense to play the lottery as you become more and more wealthy. Why? When analyzing whether or not to take a financial risk, the most important concept is understanding the analysis of risk vs. reward. Don’t worry. This concept is much easier to understand that you might think.

Most people view the risk of playing the lottery as being $1, or the cost of one ticket. And, of course the reward would be the current jackpot. However, when we’re looking at comparing who is in fact taking more risk, thus worsening their risk / reward ratio by comparison to someone else, we have to look at things in terms of percentages.

Suppose, for example, that someone with a net worth of $10 bought one lottery ticket for $1. This person would be making a highly unlikely bet with 10% of their entire net worth.

While it seems somewhat unusual for someone to have a networth of $10, there are more than a handful of people out there that don’t even have that. Many people actually have more debt than assets, which actually means that their net worth is negative! The numbers are even worse for these people.

Now, suppose a person who has a net worth of $1 million buys a single lottery ticket. They are risking 0.0001% of their net worth on a bet with a high probability of loss. Just to clarify this number, $1 divided by $1 million, equals 0.000001. This number converted from a decimal to percentage terms, which involves taking 0.000001 multiplied by 100, gives us a percentage of 0.0001%.

So, the person who is already a millionaire is taking less risk, as a percentage of their total worth, than the person who is not already a millionaire. Why, then, do we not see more high net worth individuals winning the lottery?

First, if you're already a millionaire, then you may already know how to accumulate wealth. And, would you really be that concerned with "winning" a few more million as a matter of pure chance, when you already have what it takes to make millions as a near matter of certainty?

Second, most millionaires that know what is takes to continue making millions didn't get to be where they are by making bets that have a tremendously high probability of loss. Even if we assume that 95% of business ventures fail, those are still far better odds than those of winning a lottery.

2. “I don’t normally play the lottery. But, now that I have a chance to win a lump sum of over $370 million, you bet I’m going to play.” At face value, this idea seemingly makes sense to a lot of people. After all, if the basis of making decisions is based on a risk vs. reward analysis, then it theoretically makes more sense to play as the potential reward grows in size. However, there is also a threshold at which the increased reward is negligible to the average person buying a ticket.

Here’s what I mean. Let me ask you a question. If you won a lump sum of $370 million dollars today, would it be life changing for you? I can’t imagine anyone answering this question with anything other than, “Yes!”

Ok, now let’s look at another question. Let’s suppose you only won a lump sum of $10 million. Would that be life changing for you? I venture to guess that most people would still answer this question with a similar, “Yes!”

Now, when I hear someone say that they don’t normally play the lottery, but they do when the jackpot is over $370 million, I hear them saying, “Winning $10 million dollars, which would completely change my life and grant me security for a long time, is simply not worth it. So, I don’t play when the jackpot is that low. But, winning a much larger amount, like $370 million, while providing me with a similar life changing amount of security, is definitely worth it.”

Whether these people realize it, or are willing to admit it, or not, their actions are suggesting that $10 million dollars is an insignificant amount of money to them; but, $370 million is not. Really?! I mean, this seems pretty absurd, right? But, yet it happens.

3. Always buy quick picks. The logic I've seen in this strategy is simply crazy. The idea is that when people pick their own combination of numbers, they are likely to play numbers that are in some way significant to them. In the world of behavioral finance, there is a term related to this way of thinking known as "anchoring".

Researchers have found that if they have test subjects spin a dial with 20 numbers on it, and then they asked the subjects to pick a random number between one and 20, a majority of the people will pick the number that they spun on the dial. This is because of anchoring.

When people pick "random" numbers on their own for a lottery, there is a common tendency to pick numbers that are significant to them, such as their dates of birth, anniversaries, etc. When a massive amount of individuals think and act in this way, it is not uncommon for several of them to play the same numbers. If some of the players play the same numbers and those numbers hit, then those individuals will have to split the jackpot among the winners. There are people out there that believe in using the quick pick, because they believe that their odds of having to split the jackpot will be lower... if they win.

How absurd is that? Think about this for a second. The numbers drawn for the lottery are what they are. They might be a combination that people are more likely to pick. Or, they might be numbers that nobody has ever picked before. Either way, numbers will be drawn and they cannot be changed. So, doesn't it make sense to just hope to pick the winning numbers? Wouldn't you be elated if you had to split $30 million three different ways? Wouldn't you rather win a $10 million dollar share of $30 million because you picked the right numbers than lose $1 because the quick pick picked the wrong numbers for you? I sure would. But, somehow many people strangely can't see this obvious fact.

4. Always pick your own numbers. I read a news story earlier today that talked about a guy who has won the lottery several times. He's even written a book about how to increase your odds of winning. The story claimed that the man recommended always picking your own numbers.

Maybe he picked his own numbers and won, possibly even every time. But, to draw conclusions that your own actions have any effect over the outcome of random events, is also absurd. The act of thinking this way also has its own term in the study of behavioral finance known as "quasi-magical thinking". To learn more about this, please see my article titled "Understanding Friday the 13th Psychology Can Help Make You a Lot of Money".

What have you heard?

What crazy logic or irrational thinking or actions have you heard of over the last week regarding the lottery hyteria? If you’ve heard anything good, please leave me a comment below.

What Can Super Bowl Ticket Prices Tell You About The Economy?

By Ryan Snefsky

The average price of a Superbowl ticket on the secondary market this year is currently $4,054. Last year, the average was $4,140. That's a decrease of roughly 2%. What can this information possibly tell us about the state of our economy?

We could certainly hypothesize that our economy is in a slightly worse place this year than last. But if we really want to have a better idea, we have to dive into the data even further.

There are certainly a variety of factors that could also be in play here. For example, different teams have fan bases of different sizes. Also, some might be more attracted to traveling to a city in the South during this time of year.

But even if we ballparked the impact of some of those factors, you can't help but notice that they can be countered by the supply side of supply and demand. The maximum capacity of the stadium in Dallas is 111,000, compared to 70,000 in Indianapolis. On a percentage basis, we're looking at a lot less availability, yet the average price is still 2% lower year over year?

While I can't be sure without access to much more data, I think we're seeing an overall decrease in confidence in consumer spending among those who can afford a $4,000+ ticket.

Is there any other data that could support this thesis? Yes. The Consumer Confidence Index was at 61.1 for the month of January, down from 64.8 in December, suggesting that consumer spending is on the decline. This index doesn't necessarily isolate the group of consumers that can afford a Superbowl ticket. But if consumers are feeling the pinch at this level, you can bet that consumer spending for average Americans is being hit even harder.

If consumers are still cutting spending, despite some of the recent positive jobs data that's been reported, there may still be some opportunities in stocks that give consumers an opportunity to "trade down."

Say a consumer usually shops for clothing at Macy's, and they start shopping at Kohl's or J.C. Penney instead. The consumer is said to be "trading down" to a replacement with a lower price point.

Based on this thesis, I plan to take a look at some trade down stocks for opportunities. Some of them have already experienced significant gains over the last couple years as a result of the challenging economy, so I'm a little skeptical of the valuations. But, if the trend is still that consumer spending is on the decline, there may be more room to the upside.

Examples of trade down stocks include companies like McDonalds (Symbol: MCD), Yum Brands (Symbol: YUM), Family Dollar Stores (Symbol: FDO), and Walmart (Symbol: WMT). There are many more examples out there, but I think you get the idea.

In the meantime, never forget that investment ideas can come from from anywhere, including the Superbowl. If you're looking to make uncommon profits from your investments, you need to have uncommon ways of thinking. When you hear of a popular topic of discussion in the media, always stop and ask yourself, "Is there anything here I can use for an investment angle?" Sometimes, the best investment opportunities are hiding in plain sight.

Facebook's IPO: Should You Buy?

By Ryan Snefsky

The most common question I’m asked right now is, “Should I get in on the Facebook IPO?” This question isn’t being asked now for the first time. I originally started getting this around the time of the LinkedIn IPO.

I heard people say, “I’m not getting in on the LinkedIn IPO. I’m going to wait and get in on Facebook.” But, does this way of thinking make financial sense?

Understanding Friday the 13th Psychology Can Help Make You a Lot of Money

By Ryan Snefsky

Many people have a thing, or maybe even a fear, about Friday the 13^th. Why? It is a superstition that Friday the 13th is a very unlucky day. But, once you understand the psychology behind superstition, you'll have some new knowledge that is essential to your financial success.

The Truth Behind the U.S. Credit Rating Downgrade - Capital Ingenuity Audio Blog - 8/10/11

By Ryan Snefsky

This is the very first recording of the Capital Ingenuity Audio Blog! This is a discussion about the implications of the recent downgrade to the U.S. credit rating, the politics behind the rating agencies, and the relevance of the rating agencies going forward.

Possible Effects of a U.S. Credit Rating Downgrade

By Ryan Snefsky

The other day, a good friend of mine asked what I think would happen if there was a downgrade to the credit rating of the United States. In order to really understand the effects, we first have to look at two key pieces of background information.

How Will My Investments be Affected by the Deadline to Raise the Debt Ceiling?

By Ryan Snefsky

Last weekend (July 23rd and 24th), the media obsessed over the idea that the Asian markets would get crushed if a deal to raise the debt ceiling was not reached by 4:00PM EST, which is shortly before Asian markets begin their trading day. Then they told us that the U.S. markets would get crushed if the Asian markets took a shot on the chin.

After the media's weekend long obsession, the Asian markets did not get crushed on Monday and neither did the markets in the U.S. On Monday, the Dow Jones Industrial Average closed 88.36 points lower at 12,681.16. On a percentage basis, this was only a loss of just under 0.7%.

Was all the obsession merely a negotiating tactic by our politicians to get a deal done faster? Maybe. But, I think even the politicians accurately expected the market's reaction Monday. If they actually expected something much worse, I think we would have seen a deal by 4:00PM.

Understanding why the markets reacted the way they did on Monday will help you understand what is likely to happen to your portfolio from now until August 2nd.