Introduction to Prices vs.

HandicaDDinp: Place and Show Anomalies

Donald B. Hausch, Victor S.Y. Lo and William T. Ziemba

Most of the research on racetrack efficiency has focused on the win bet market, and the general
conclusion has been that there exists a favorite-longshot bias but it is not sufficiently strong to allow
positive profits (e.g. Snyder (1978)'). Extreme favorites of odds 3-10 and shorter are an exception,
allowing a small positive return, but they are so uncommon that for practical purposes the win market
is weak form efficient, see Ziemba and Hausch (1986)2. Inefficiencies in the place and show markets,
however, have been reported as early as Griffith (1961)'. There are several explanations: 1) their pools
are smaller; 2) place and show wagers are more complicated than win bets since many different payoffs
Efficiency of Racetrack Betting Markets Downloaded from www.worldscientific.com

are possible depending on which horses are the first two or three finishers; and 3) extrapolating the win
market's bias for favorites to higher probability place and show bets on favorites suggests a potential for
by UNIVERSITY OF BIRMINGHAM on 05/10/16. For personal use only.

inefficiencies.

Asch, Malkiel and Quandt (1984', 1986') (the second paper a correction of the first) applied a
logit model estimating the true win probabilities based on the final win odds, earlier win odds and
morning line odds. Comparing some filter rules for betting to win, place and show, their simulations
showed returns to place and show that exceeded those to win, but in no cases were the returns positive
with statistical significance.

Hausch, Ziemba and Rubinstein (1981)' used a more selective rule for identifying inefficiencies
in the place and show markets. They first applied the Harville formulas (Harville (1973)') to predict the
probabilities of finishing order given the final win odds data. Then place and show probabilities were
calculated followed by computation of expected returns to place and show. At this point their system
involves two steps:

(i) identify those place and show bets with an expected return exceeding a specific level (a level that
depends on the quality of the horses and the size of the track); and

(ii) the amount to wager is based on the "Kelly criterion", to maximize one's expected log of final wealth.

The "Kelly criterion" was originally proposed by Kelly (1956)' and extended by Brieman (1961)2. Is
properties include that it maximizes the long-term capital growth rate and, asymptotically, it minimizes
the time to reach a fixed wealth level. Hausch, Ziemba and Rubinstein developed regression
approximations to the procedure to make possible its real-time application and, using data from Exhibition
Park and Santa Anita, showed returns on the order of ten percent. Hausch and Ziemba (1985)' extended
the wagering scheme to allow for varying track take, different initial wealth, different size tracks,
multiple wagers, and multiple horse entries. Details of the betting system and more empirical results
from Belmont Park and the Kentucky Derby appear in Ziemba and Hausch (1984', 19873. For
discussions of the system, see Skinner (1989)' and McCardell (1992)'. More examples and considerations
of other bet types such as exotics appear in Ziemba and Hausch (1986)'.

Ritter (1994)', in a revision of work predating Hausch, Ziemba and Rubinstein (1981)'.
simihr id-
. Instead of computing expected returns and employing the Kelly criterion, Ritter
for p h a nod s h w bcaing

compared a horse's win bet fractions with those for place and show, and wagered when the difference
was great enough. While he demonstrated positive profits using final odds, profits were not possible
when wagers were based on odds 1% minute from the end of betting. More recently, Lo, Bacon-Shone
and Busche (1994)' modified Hausch, Ziemba and Rubinstein (1981)' by using other distributional

355
 356 D. B. HAUSCH, V. S . Y. LO, AND W. T. ZIEMBA

assumptions (normal and gamma) of running times with the approximation methods proposed by Lo and
Bacon-Shone (1993)'. More data input is required, but their simulations show improved returns.

Willis (1964)' developed a developed a linear programming model to exploit possible arbitrage
opportunities between the win and place markets. His situations are extremely rare, though. Hausch and
Ziemba (1990b)' studied another arbitrage possibility in the show market that may exist when there is an
extreme favorite that has received most of the show betting. They showed when a "lock" exists and
developed a linear program to maximized the guaranteed return. While the lock strategy guarantees a
return, it is more conservative than the Kelly criterion.

Cross track betting permits bettors at their local track to wager on races being run at another
track. So, in addition to exploitingpossible inefficiencies in the place and show pools, cross track betting
allows one to exploit inefficiencies in these markets across tracks. Hausch and Ziemba (1990a)'
Efficiency of Racetrack Betting Markets Downloaded from www.worldscientific.com

developed and tested optimal betting strategies for cross track betting. One strategy was to identify
whether a risk-free hedge could be constructed by betting a sufficient amount on each horse at the track
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where its offered odds was longest. Examples where the variance in odds across tracks was sufficient
were provided. Also analyzed was the Kelly criterion in two environments: 1) a single bettor at a cross
track observing (perhaps by television) the home track's odds' and 2) a syndicate of bettors, one at each
track, communicating with a central decision maker. Leong and Lim (1994)' also found evidence of
profits using cross track betting that exists between races in Singapore and Malaysia. Both these papers
showed profits but neither had sufficient data for statistically significant profits.

' included in this volume

cited in the Annotated Bibliography