Why Brazil is undervalued by punters

When India exited the 2007 Cricket World Cup, broadcasters, advertisers and sponsors faced huge losses. They had made the calculations for the tournament based on the assumption that India would qualify for the second group stage, at least, and when India failed to do so, it possibly led to massive losses for these parties.

Back then I had written this blog post where I had explained that one way they could have hedged their exposure to the World Cup would have been by betting against India’s performance. Placing a bet that India would not get out of their World Cup group would have, I had argued, helped mitigate the potential losses coming out of India’s early exist. It is not known if any of them actually hedged their World Cup bets in the betting market.

Looking at the odds in the ongoing Football World Cup, though, it seems like bets are being hedged. The equivalent in the World Cup is Brazil, the home team. While the world football market is reasonably diversified with a large number of teams having a reasonable fan following, the overall financial success of the World Cup depends on Brazil’s performance. An early exit by Brazil (as almost happened on Saturday) can lead to significant financial losses for investors in the tournament, and thus they would like to hedge these bets.

The World Cup simulator is a very interesting website which simulates the remaining games of the World Cup based on a chosen set of parameters (you can choose a linear combination of Elo rating, FIFA ranking, ESPN Soccer Power Index, Home advantage, Players’ Age, Transfer values, etc.). This is achieved by means of a Monte Carlo simulation.

I was looking at this system’s predictions for the Brazil-Colombia quarter final, and comparing that with odds on Betfair (perhaps the most liquid betting site). Based purely on Elo rating, Brazil has a 77% chance of progress. Adding home advantage increases the probability to 80%. The ESPN SPI is not so charitable to Brazil, though – it gives Brazil a 65% chance of progress, which increases to 71% when home advantage is factored in.

Assuming that home advantage is something that cannot be ignored (though the extent of it is questionable for games played at non-traditional venues such as Fortaleza or Manaus), we will take the with home advantage numbers – that gives a 70-80% chance of Brazil getting past Colombia.

So what does Betfair say? As things stand now, a Brazil win is trading at 1.85, which translates to a 54% chance of a Brazil victory.  A draw is trading at 3.8, which translates to a 26% chance. Assuming that teams are equally matched in case of a penalty shootout, this gives Brazil a 67% chance of qualification – which is below the range that is expected based on the SPI and Elo ratings. This discount, I hypothesize, is due to the commercial interest in Brazil’s World Cup performance.

Given that a large number of entities stand to gain from Brazil’s continued progress in the World Cup, they would want to protect their interest by hedging their bets – or by betting against Brazil. While there might be some commercial interest in betting against Colombia (by the Colombian World Cup broadcaster, perhaps?) this interest would be lower than that of the Brazil interest. As a result, the volume of “hedges” by entities with an exposure to Brazil is likely to pull down the “price” of a Brazil win – in other words, it will lead to undervaluation (in the betting market) of the probability that Brazil will win.

So how can you bet on it? There is no easy answer – since the force is acting only one way, there is no real arbitrage opportunity (all betting exchanges are likely to have same prices). The only “trade” here is to go long Brazil – since the “real probability” or progress is probably higher than what is implied by the betting markets. But then you need to know that this is a directional bet contingent upon Brazil’s victory, and need to be careful!