Thursday, December 27, 2012

Lottery Ticket Investing

In a previous post, I listed a bunch of Startup Ideas, but I didn’t go into any details about them. In this post I will discuss one of the ideas – Lottery-ticket investing. I decided to start from one of the less realistic ideas, so I can move to more realistic ones in later posts. While writing this post, I realized there were even more issues than I initially thought.

Q: So why are you publishing it?

Well I thought it might still have some potential somewhere, and I can use a Q&A format to discuss its issues. And it touches on some questions in economics and psychology.

Lottery-Ticket Investing

Problem: People buy lottery tickets despite the poor odds, i.e. their negative expected return. They do this because they’re excited by the prospect of large winnings, and may not evaluate the odds correctly. But there should be some way to let them get tickets that offer a large prize, but still have an overall positive return.

Solution: Create an Investment Lottery: Invest the lottery ticket money in stocks, which historically have a strong positive return. Use a investing method with high-voltaility so there is a chance of large payouts.

Q: But how would you distribute the money?

One way would be to have an actual lottery at the end of the investment period and give the money to specific winners. However, this is too similar to a regular lottery, so the state governments wouldn’t allow it. Instead, one could give the actual returns of each ticket to the buyer. This way people who get or pick the right tickets can win big.

Q: So you’re basically just selling people stocks.

Yes, these tickets would let people easily invest small sums in a high-risk but high-reward manner.

Q: That sounds pretty boring.

It’s true that people are motivated to buy because of the hope of getting a huge prize, but people also buy tickets for smaller prizes. So one would need to examine where the cut-off would be. For example, people might be willing to pay $10 for a ticket that could potentially win $1000. If they here about one winner who won a huge prize, they might get excited enough by that possibility, even if it rarely happens.

Q: But how would you ever get 100x returns on investments in a short time-span?

There are a number of possibilites that one could explore. Perhaps there’s some way to do it with margin-investing, or with some variety of that. For example, the lottery stock tickets could insure other investors against losses, so the ticket-holders take larger losses or bigger gains if the stock has a large change. This will let the ticket-holders magnify their risk and provide insurance to safe investors.

Q: That doesn’t sound like a very good idea, and people can insure against losses without any lottery involved, e.g. by buying put options.

OK, so that idea might have some flaws. But there are risky investments that one could find, such as certain junk bonds. In addition, it will soon be legal for ordinary people to invest in small companies. They could serve as a very-high risk investment that could have extremely good returns. By making it easy for people to buy “Investing Tickets”, they can be encouraged to invest in a system that has good overall returns instead of losing so much money in the lottery. While they might not make it rich this way, they’ll have better long-term odds than in the lotto.

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