Saturday, January 9, 2016

Powerball and Expected Value

From the Marginal Revolution.

Today’s Powerball lottery offers a prize of $800 million. Is the prize high enough to make it worth playing for an economist? In other words, is the prize high enough to be a net gain in expected value terms? Almost!

The odds of winning are 1 in 292.2 million. So the expected value of a ticket is $800*1/292.2=$2.73. A ticket only costs $2 so that’s a positive expected value purchase! We do have to make a few adjustments, however. The $800 million is paid out over 30 years while the $2 is paid out today. The instant payout is about $496 million so that makes the expected value 496*1/292.2=$1.70. We also have to adjust for the possibility that more than one person wins the prize. If you play variants of your birthday or “lucky” numbers that’s a strong possibility. If you let the computer choose your chances are better but with so many people playing it wouldn’t be surprising if two people had the same number–I give it 25%. So that knocks your winnings down to $372 million in expectation.

Finally the government will take at least 40% of your winnings, leaving you with $223 million in expectation. At a net $223 million the expected value of a $2 ticket is about 75 cents. Thus, a Powerball ticket doesn’t have positive net expected value but the net price of $1.25 is significantly less than the sticker price of $2. $1.25 is not much but to get your money’s worth buy early to extend the pleasure of anticipation.

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