The authors wish to thank an anonymous referee, John Doukas (the editor), Anthony Neuberger, Ian Tonks, Lucian Foldes and other conference participants at Kings Colleges London and the discussant and conference participants at the EFMA 2009 meeting for helpful comments. Lin gratefully acknowledges the generous financial support from the Warwick Postgraduate Research Fellowship. Corresponding author: Stewart Hodges.
Fixed Odds Bookmaking with Stochastic Betting Demands
Article first published online: 6 MAR 2013
© 2010 Blackwell Publishing Ltd
European Financial Management
Volume 19, Issue 2, pages 399–417, March 2013
How to Cite
Hodges, S., Lin, H. and Liu, L. (2013), Fixed Odds Bookmaking with Stochastic Betting Demands. European Financial Management, 19: 399–417. doi: 10.1111/j.1468-036X.2012.00601.x
- Issue published online: 6 MAR 2013
- Article first published online: 6 MAR 2013
- horse betting;
- state-contingent claims
This paper studies fixed odds bookmaking in the market for bets in a British horse race. The bookmaker faces the risk of unbalanced liability exposures. Even random shocks in the noisy betting demands are costly to the bookmaker since his book could become less balanced. In our model, the bookmaker sets appropriate odds to influence the betting flow to mitigate the risk. The stylised fact of the favourite-longshot bias only arises from the model under specific assumptions. Our model offers insights into the complexity of managing a series of state contingent exposures such as options.