Four middle-aged couples were sitting in the gourmet restaurant at Bob Stupak's Vegas World Casino anticipating that in about an hour one of them would be a millionaire. It was the culmination of a year-long slot tournament that was part of Bob's vacation packages. One member of each couple would go on the stage to play on one of the four machines assigned to them. Whoever did the best would win a million dollars.
Second prize was a steep reduction, $50,000. Third prize was $20,000. Fourth was $10,000. But even the small prizes were big money to these middle-class people who had gotten extremely lucky in this tournament's earlier rounds.
Several months earlier Bob Stupak had hired me as his consultant. As such, I was always looking for ways to make or save Bob's money. While observing these couples, an opportunity to save some serious money occurred to me. I pulled Bob aside and said "Offer them each a settlement of $60,000. They will still appear on the stage and go through the motions, but let's see if they will sign a contract specifying that, regardless of the outcome, they will all be paid $60,000."
Bob frowned, shook his head, and replied "No way they would make such a deal."
But my professional gambling experience had taught me something about human nature. Even though any serious gambler would laugh at this offer, these four couples might see it differently. From their point of view, it might appear better to take an offer that three-quarters of the time would give them more than they would get from playing. So I said "Bob, just ask them. It can't hurt to ask."
He did, and they all said "Yes." They agreed to take a total of $240,000 rather than a total of $1,080,000.
James edit: These people had a game that would have paid them $270,000 on average, and they all turned it down for $60,000. Granted, you can make exceptions for life-changing amounts of money (see: utility theory), but that can't justify taking this horrendous offer...also, an interesting segment related to this scenario later in the book:
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We started this book by telling you about the astonishing settlement that the four slot tournament finalists were willing to take. At first, Bob was flabbergasted by their decision. Why would they take so much less than their EV?
As time passed, he realized something that I had known for years: Average gamblers disregard and misunderstand EV, especially when serious money is involved. Don't gamblers want to take risks? Nobody forces them to play slot machines, craps, and so on. They do it because they get a kick out of it. But, when the money gets serious, they get scared. I'll have a lot more to say about attitudes toward risk later. For the moment, let's finish the story.
Because of my suggestion, the finalists threw $840,000 of EV straight into Bob's pocket. Alas, he threw it right back at them. Don't ask me why. In fact, in a few hours he was kicking himself.
Our attorney told Bob that there was a reasonable chance that the ostensible winner, the man or woman who won on the stage, would later claim that he was under some sort of duress and would ask for the full million dollars. (None of the other entrants would sue because they all would have received more than their official prize money). For some strange reason Bob agreed with his attorney, let the tournament go forward, and paid all four winners the original prizes. Do you realize why it was a bad decision?
Because the upside reward was much greater than the downside risk. If his attorney was right, and the winner sued and won, Bob would have paid $100,000 more: $50,000 extra to fourth, $40,000 extra to third, and $10,000 extra to second. If the attorney was wrong, he saved $840,000. Thus he was getting 8.4-to-1 odds.
James edit: Sklansky then goes on to say how P(getting sued and losing) was really low anyway, but through some trivial calculations, we can show that even if P(getting sued and losing) was 89%, it still would have been better to offer the $60k deal and face a probable successful lawsuit. This is a sample of some of the math that goes on in the mind of a [successful] poker player.
