share

Risk and Reward

Mon, 06/23/2008 - 4:11am

 

As the draft approaches, many fans (and presumably general managers) may be asking themselves a basic question: What’s better, a safe and solid pick or a high risk but high reward pick?[img_assist|nid=1143|title=Andrew Bynum|desc=|link=none|align=right|width=300|height=428]

It seems initially like a pretty simple question to answer. Given a choice of two investments with the same expected return, most people would choose the investment that is less risky. It’s the right idea – the goal should generally be to minimize risk as much as possible. The only problem is that sports teams tend to do the opposite. Time after time in every sport, teams go for the player that has upside and potential.

Why are so many of the people running sports teams so stupid, you might ask? The answer is that they’re not. Let’s use an example.

Hypothetically, let’s say the only thing that mattered in the NBA is how many points per game each player scored. Let’s also say a team was faced with two choices for a draft pick: a “safe” player who had a 100% chance of scoring 15 points per game, or a risky player who had a 50% chance of being a star and scoring 25 points per game and a 50% chance of being a bust and only scoring 5. Both players have an expected output of 15 points per game, but one is less risky. You go with the safer player, right?

Wrong. The secret twist in sports is that teams have option values. In other words, if the player you draft turns out to be a bust, you can get rid of him. You can trade him, waive him, or, at the very least, bench him. And you can probably find a mediocre player who’ll score 10 points a game to replace him. All of a sudden, the risky pick has a 50% chance of 25 points per game and a 50% chance of being replaced by a 10 points per game player. The expected return is now 17.5 points per game, higher than the 15 points per game of the safer pick.

Of course, many team-specific factors come into play. If a good team low in the draft knows that it needs just one more decent piece to win a championship, it might make more sense to take the sure thing. However, in general, with all else being equal, the riskier pick may make the most sense.

RSS: Syndicate content