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HarlanH

Interesting. I think it would work on me, if I were in the market for a Renault! The reason why is that I don't really care about $50 one way or the other. That rebate makes no difference to my standard of living at all, it's just rounding error in the 5-10 years I'll own the car. But 11,000 Euro is a lot of money, and winning would noticeably improve my quality of life!

This is an argument why, if you have to buy lottery tickets, you should buy the ones where the jackpot is millions, not just a few dollars or even a few hundred dollars. The expected return of buying a weekly lottery ticket is -$52/year, but that's also the most you can lose, while the best-case upside is unlikely, but quite large! Winning would seriously change your life!

(And if you're responsible with your money, it might even change it for the better!)

gary

If @HarlanH's intuition is correct - this appears to invert typical assumptions about risk-aversion that we get from finance: Given the same expected return, a rational person would prefer the one with less variance in outcomes. The issues of diversification (rational side) and scale (behavioral side) seem to play roles here.

Kaiser

Gary: I think the assumption in finance you're talking about is risk aversion. But then, I remember that one of the key insights from my investments class was that traders want volatility to make money, which has always led me to believe that the market is inherently unstable because the players profit from volatility.

Danil

See also: _Veeck as in Wreck_, _The Hustlers Handbook_.

Why give one ice cream sandwich to each fan, when you can give 5000 ice cream sandwiches to one fan, and give everybody else something they'll talk about for years....

gary

You can make money on volatility if you have an information advantage, diversification, or a long time horizon. You can seek risk if you believe you're able to bias results in your favor (e.g., stock quants, card counters). Or if you have a diversified portfolio so individual losses balance out, you can charge for taking on that risk from people who aren't able to do this (option selling, insurance). Or if you have a long time horizon, you can wait out volatility or even trade programmatically on dips (beware, you can get killed by black swans on both of the latter).

None of these apply to these lottery cases, but people are willing to take on that risk.

I believe pretty strongly in the behavioral component here - people don't accurately assess odds, people don't see the costs of entry (in this case, the $50 forgone rebate if it were given to every buyer), etc. That's why Renault goes the free car vs. trivial rebate route.

I just wonder if there's a theoretical explanation somewhere beyond/between "people are just stupid" and "people are purely rational" that explains where & how people will willingly absorb risk in the absence of any diversification, time horizon or informational advantages, and when they'll refuse.

We know from the behavioral studies that people will take $10 today vs. $11 tomorrow, but will take $11 in a month & a day over $10 in a month. So there's a threshold of time where people turn off their rational calculation of time value of money. What's the threshold for risk assessment?

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