football – Page 3 – Pertinent Observations

Biases, statistics and luck

Tomorrow Liverpool plays Manchester City in the Premier League. As things stand now I don’t plan to watch this game. This entire season so far, I’ve only watched two games. First, I’d gone to a local pub to watch Liverpool’s visit to Manchester City, back in September. Liverpool got thrashed 5-0.

Then in October, I went to Wembley to watch Tottenham Hotspur play Liverpool. The Spurs won 4-1. These two remain Liverpool’s only defeats of the season.

I might consider myself to be a mostly rational person but I sometimes do fall for the correlation-implies-causation bias, and think that my watching those games had something to do with Liverpool’s losses in them. Never mind that these were away games played against other top sides which attack aggressively. And so I have this irrational “fear” that if I watch tomorrow’s game (even if it’s from a pub), it might lead to a heavy Liverpool defeat.

And so I told Baada, a Manchester City fan, that I’m not planning to watch tomorrow’s game. And he got back to me with some statistics, which he’d heard from a podcast. Apparently it’s been 80 years since Manchester City did the league “double” (winning both home and away games) over Liverpool. And that it’s been 15 years since they’ve won at Anfield. So, he suggested, there’s a good chance that tomorrow’s game won’t result in a mauling for Liverpool, even if I were to watch it.

With the easy availability of statistics, it has become a thing among football commentators to supply them during the commentary. And from first hearing, things like “never done this in 80 years” or “never done that for last 15 years” sounds compelling, and you’re inclined to believe that there is something to these numbers.

I don’t remember if it was Navjot Sidhu who said that statistics are like a bikini (“what they reveal is significant but what they hide is crucial” or something). That Manchester City hasn’t done a double over Liverpool in 80 years doesn’t mean a thing, nor does it say anything that they haven’t won at Anfield in 15 years.

Basically, until the mid 2000s, City were a middling team. I remember telling Baada after the 2007 season (when Stuart Pearce got fired as City manager) that they’d be surely relegated next season. And then came the investment from Thaksin Shinawatra. And the appointment of Sven-Goran Eriksson as manager. And then the youtube signings. And later the investment from the Abu Dhabi investment group. And in 2016 the appointment of Pep Guardiola as manager. And the significant investment in players after that.

In other words, Manchester City of today is a completely different team from what they were even 2-3 years back. And they’re surely a vastly improved team compared to a decade ago. I know Baada has been following them for over 15 years now, but they’re unrecognisable from the time he started following them!

Yes, even with City being a much improved team, Liverpool have never lost to them at home in the last few years – but then Liverpool have generally been a strong team playing at home in these years! On the other hand, City’s 18-game winning streak (which included wins at Chelsea and Manchester United) only came to an end (with a draw against Crystal Palace) rather recently.

So anyways, here are the takeaways:

Whether I watch the game or not has no bearing on how well Liverpool will play. The instances from this season so far are based on 1. small samples and 2. biased samples (since I’ve chosen to watch Liverpool’s two toughest games of the season)
80-year history of a fixture has no bearing since teams have evolved significantly in these 80 years. So saying a record stands so long has no meaning or predictive power for tomorrow’s game.
City have been in tremendous form this season, and Liverpool have just lost their key player (by selling Philippe Coutinho to Barcelona), so City can fancy their chances. That said, Anfield has been a fortress this season, so Liverpool might just hold (or even win it).

All of this points to a good game tomorrow! Maybe I should just watch it!

Football transfer markets

So the 2017 “summer transfer window” is going to close in three days’ time. It’s been an unusual market, with oddly inflated valuations – such as Neymar going for ~ €200 million from Barcelona to PSG, and Manchester City paying in excess of £50 million each for a pair of full backs (Kyle Walker and Benjamin Mendy).

Meanwhile, transfers are on in the NBA as well. Given that American sporting leagues have a rather socialist structure, there is no money exchanged. Instead, you have complicated structures such as this one between the Cleveland Cavaliers and Boston Celtics:

by trading Kyrie Irving (pictured, left), their star point guard, to the Boston Celtics. In exchange, Mr Altman received a package of three players headlined by Isaiah Thomas (right), plus a pick in the 2018 entry draft

A week back, renowned blogger Amit Varma interviewed me for his The Seen and the unseen podcast. The topic was football transfers, something that I talk about in the first chapter of my soon-to-be-published book. In that, he asked me what the football transfer market might look like in the absence of price. And I mentioned that PSG might have had to give up their entire team in order to buy Neymar in that situation.

Anyway, listen to the entire podcast episode here.

Oh, and I don’t know if I mentioned it here before, but my book is ready now and will be released on the 8th of September. It’s being published by the Takshashila Institution.

You can pre-order the book on Amazon. For some reason, the Kindle India store doesn’t have a facility to pre-order, so if you live in India and want to read the book on Kindle, you’ll have to wait until the 8th of September. Kindle stores elsewhere already allow you to pre-order. Follow the link above.

More football structuring

I’ve commented earlier on innovative structuring of football player contracts, with call options and put options and all other exotic options being involved. Now I see another interesting transfer structure, this time in the contract of Juventus (and Spain) striker Alvaro Morata.

In 2014, Real Madrid sold Morata to Juventus for a transfer fee of €20 million, but the sale had a “buy back clause”. Embedded in the sale was an option for Real Madrid to buy back Morata at any time for €30 million, and now it seems like they’re exercising it!

While this might be based on Morata’s performances (both for Juventus and Spain) in the last couple of years, the interesting thing about the buyback is that Real Madrid are unlikely to keep hold of Morata. Instead, talk is that they plan to sell him on, with PSG and Manchester United being interested in the forward.

Effectively the deal is something like “as long as Morata’s perceived market value is < €30M, Juventus can keep him, but once his perceived market value goes up, all the upside goes to Real Madrid”. The downside (in case Morata regressed as a player and his market value went below €20M), of course, remained with Juventus. To put it simply, Madrid is exercising its call option on the player.

While loan agreements have earlier had clauses such as “right but obligation to make deal permanent” or “obligation but not right to make deal permanent”, this is the first time I’m seeing an actual transfer deal with this kind of a clause, which is being exercised. So why did Juventus and Real Madrid hammer out such a complicated-looking structure?

For Juventus, the simple answer is that the option they wrote reduced the cost of buying the player. While they have given up on significant upside in writing this call option, this is what perhaps made the purchase possible for them, and in some ways, it’s worked out by giving them two more Scudetti.

The answer is less clear from Real Madrid’s perspective. Clearly, the fact that they got a call option meant that they believed there was a significant chance of Morata improving significantly. At the point of time of sale (2014), however, he was surplus to their requirements and they believed sending him elsewhere would help in this significant improvement.

It is possible that the market in 2014 wasn’t willing to bear the price implied by Real Madrid’s expectation of Morata’s improvement, but was only willing to pay based on his then abilities and form. In other words, while Morata’s current abilities were fairly valued, his future abilities were grossly undervalued.

And Madrid did the smart thing by unbundling the current and future values, by structuring a deal that included a call option!

Again, this is only my speculation of how it would have turned out, but it’s indeed fascinating. Given how global financial markets are performing nowadays, it seems like structuring of football deals is now far more interesting than structuring financial derivatives! But then the market is illiquid!

Pricing season tickets

One observation about the crowd when I attended my first game at the Camp Nou (in October 2014, against Ajax in the 2014-15 Champions League) was how people around me all seemed to know each other. There were friendly nods and handshakes, and it was evident that these men and women were familiar with each other. They all arrived and departed independently, though, and there wasn’t much conversation during the game, suggesting they were acquaintances rather than friends.

On my second visit to the Camp Nou (ten days ago, for the 2015-16 Champions League game against Arsenal), I noticed hordes of empty seats. I was in a stand two tiers higher than where I had sat for the Ajax game, and despite that stand being priced at a princely €150, there were plenty of empty seats (my wife sat next to me for the duration of the game despite her assigned seat being one rank and a few files away). It was a cold and rainy day, but not so rainy that €150 be treated as “sunk cost”!

The common feature that explains both these phenomena is the “season ticket”. As the official club website explains,

The complete season ticket gives members the right to attend, always from the same seat, games played at the Camp Nou in official competitions: Spanish League, Champions League, Copa de Rey and UEFA Cup (emphasis added)

The reason people seated around me at the Ajax game were acquainted with each other was because they were season ticket holders, and would watch every game seated in close proximity to one another. And the empty seats for the Arsenal game were a result of season ticket holders, for whom the marginal cost of not attending the game was far less than €150, not attending the game (there is a “free seat” program that lets season ticket holders sell their ticket through official channels, but considering that the decision to not go would have been made in the last minute (given the rain) many season ticket holders may not have exercised this option.

Football clubs (and other performance venues) sell season tickets in order to create a “base load” of demand for their tickets. While these season tickets are sold at a deep discount (relative to what it costs to buy a ticket for each game), the fact that they are sold at once and at the beginning of the season means that the club can be sure of a certain amount of revenue from ticket sales, and can be assured to fill a certain proportion of seats at the stadium in every round.

Season tickets are also important because they help create a sense of loyalty among the fans, and the same fans sitting in the same spaces week after week can bond and help create a better viewing atmosphere at the club. In other words, season tickets seems like a no-brainer. Except that Hull City, which plays in the English Championship, has decided to do away with season tickets starting next season.

The official statements related to this move seem like sanitised PR (refer link above), but the linked article gives away an important piece of information that suggests why this new ticket scheme might have been brought into play:

The club said the Upper Stand would be closed, meaning 1,800 fans must be relocated, but would be opened for high-profile matches

While the club doesn’t want to admit it, the reason it is doing away with season tickets is that attendance at the KC Stadium has been falling, and it appears that there have been lots of empty seats in the stadium.

As I had noted in my earlier piece on pricing Liverpool FC tickets, there are network effects to watching a football game in the stadium. You gain value not only from what happens on the pitch, but also from the atmosphere that fans at the stadium (including you) build up. And while there are many ways in which fans can affect the watching experience of co-fans, it shouldn’t be hard to understand that empty seats do not add to the stadium atmosphere in any way.

The problem with season tickets is that even with programs such as “free seat” (where the season ticket holder can get paid for giving up their seat), the cost for a season ticket holder to not attend a game is extremely low. And when several season ticket holders decide to not attend certain games, it can lead to rather low attendances, and diminished stadium experience for the fans who do end up attending.

This network effect – of fans helping shape experience of fellow fans – makes the sale of football season tickets different from that of long term cargo contracts, for example. You not only seek to assure yourself of revenues by selling season tickets, but also seek to fill a certain portion of the seats for every game through such a program, and help create the experience.

And when your fans are being delinquent (by purchasing season tickets but not attending), your first action would be to increase the price of such season tickets so that only “serious fans” will buy it and the (sunk) cost of not attending a game is higher. It seems Hull City has already gone through one such exercise, and raised its season ticket prices, which hasn’t helped drive overall attendances.

Hence, the club has decided to do away with season tickets altogether. With the new rolling monthly ticket program, fans will purchase if and only if they are confident of attending a certain number of games. On the one hand, this pushes up the cost of not going for a game, and on the other, allows the club to manage its revenues on a larger portion of the tickets.

From a revenue point of view, this is a risky strategy, as the club foregoes assured revenues from season tickets in favour of more volatile monthly ticket revenues, and greater tickets to sell in the open market before every game. However, considering the network effects of watching football in a stadium, what the club is banking on is that this measure will help them fill up their stadium more than before, and that the improved atmosphere that comes out of that can be monetised in the long run.

It’s a bold move by Hull City to improve football attendances. If it works out, it offers a way out for other clubs that are currently unable to fill their stadiums. But you must remember that optimisation here takes place on two axes – revenues and crowds!

Revenue management at Liverpool Football Club

Liverpool Football Club, of which I’ve been a fan for nearly eleven years now, is in the midst of a storm with fans protesting against high ticket prices. The butt of the fans’ ire has been the new £77 ticket that will be introduced next season. Though there will be few tickets that will be sold at that price, the existence of the price point has been enough to provoke the fans, many of whom walked out in the 77th minute of the home draw against Sunderland last weekend.

For a stadium that routinely sells out its tickets, an increase in ticket prices should be a no-brainer – it is poor revenue management if either people are scrambling for tickets or if there are empty seats. The problem here has been the way the price increase has been handled and communicated to the fans, and also what the club is optimising for.

At the outset, it must be understood that from a pure watching point of view, being in a stadium is inferior to being in front of a television. In the latter case, you not only have the best view of the action at all points in time, but also replays of important events and (occasionally) expert commentary to help you understand the game. From this point of view, the reason people want to watch a game at the ground is for reasons other than just watching – to put it simply, they go for “the experience”.

Now the thing with stadium experience is that it is a function of the other people at the stadium. In other words, it displays network effects – your experience at the stadium is a function of who else is in the stadium along with you.

This can be complex to model – for this could involve modelling every possible interaction between every pair of spectators at the ground. For example, if your sworn nemesis is at the ground a few seats away from you, you are unlikely to enjoy the game much.

However, given the rather large number of spectators, these individual interactions can be ignored, and only aggregate interactions considered. In other words, we can look at the interaction term between each spectator (who wants to watch the game at the ground) and the “rest of the crowd” (we assume idiosyncrasies like your sworn enemy’s presence as getting averaged out).

Now we have different ways in which a particular spectator can influence the rest of the crowd – in the most trivial case, he just quietly takes his seat, watches the game and leaves without uttering a word, in which case he adds zero value. In another case, he could be a hooligan and be a pain to everyone around him, adding negative value. A third spectator could be a possible cheerleader getting people around him to contribute positively, organising Mexican waves and generally keeping everyone entertained. There can be several other such categories.

The question is what the stadium is aiming to optimise for – the trivial case would be to optimise for revenue from a particular game, but that might come at the cost of stadium “atmosphere”. Stadium atmosphere is important not only to galvanise the team but also to enthuse spectators and get them to want to come for the next game, too. These two objectives (revenue and atmosphere) are never perfectly correlated (in fact their correlation might be negative), and the challenge for the club is to price in a way that the chosen linear combination of these objectives is maximised.

Fundamental principles of pricing in two-sided markets (here it’s a multisided market) say that the price to be charged to a participant should be a negative function of the value he adds to the rest of the event (to the “rest of the crowd” in this case).

A spectator who adds value to the crowd by this metric should be given a discount, while one who subtracts value (by either being a hooligan or a prude) should be charged a premium. The challenge here is that it may not be possible to discriminate at the spectator level – other proxies might have to be used for price discrimination.

One way to do this could be to model the value added by a spectator class as a function of the historic revenues from that class – with some clever modelling it might be possible to come up with credible values for this one, and then taking this value into account while adjusting the prices.

Coming back to Liverpool, the problem seems to be that the ticket price increase (no doubt given by an intention to further maximise revenue takings) has badly hit fans who were otherwise adding positive value to the stadium atmosphere. With such fans potentially getting priced out (in favour of fans who are willing to pay more, but not necessarily adding as much value to the ground), they are trying to send a message to the club that their value (toward the stadium atmosphere) is being underestimated, and thus they need greater discounts. The stadium walkouts are a vehicle to get across this point.

Maximising for per-game revenue need not be sustainable in the long term – an element of “atmosphere” has to be added, too. It seems like the current worthies at Liverpool Football Club have failed to take this into account, resulting in the current unsavoury negotiations.

Now that I’ve moved to Barcelona, Liverpool FC need not look too far – I’ve done a fair bit of work on pricing and revenue management, and on two-sided markets, and can help them understand and analyse the kind of value added by different kinds of spectators, and how this can translate to actual revenues and atmosphere. So go ahead and hire me!

Rodgers and the Ranatunga Principle

It was a wonderful display of the “Ranatunga Principle” by Brendan Rodgers last night, when he fielded what was effectively a second string Liverpool team at Real Madrid. That they lost only 1-0 shows that it wasn’t that bad a ploy, especially given the more important features coming up ahead.

Firstly, Liverpool have not given up on the Champions League. They have simply prioritised. The group they are is a rather weird one – where one team is significantly superior to the others which are approximately at the same level. It is not inconceivable at all that Real Madrid will win all their six games and get 18 points.

Before the game at Anfield two weeks back the degree of Real Madrid’s superiority over Liverpool wasn’t yet fully established and Rodgers smelt the chances of handing out an upset at home and fielded his strongest team. It backfired spectacularly as Real Madrid hammered Liverpool. The more important result of the night, though, was the unfancied but promising Ludogorets beating Basel at home. It was that result that allowed Rodgers to do what he did yesterday.

Real Madrid’s dominance means that Liverpool, Basel and Ludogorets are effectively playing a 3-team mini league the winner of which will go through to the knockouts (of course the extents of their respective thrashings by Real Madrid will matter if it comes down to goal difference). So far, in this mini group, all games have gone to the “home team”.

Liverpool’s last two games of the season see them take on Basel at home and Ludogorets away, and if they win both of them, they are through to the knockouts. Even if Liverpool had come away with a point in last night’s game, this equation would not have changed significantly (three points last night would have helped but the game at Anfield showed how impossible that was).

Liverpool have had a rather busy fixture list in the last 3 weeks. In the space of three weeks they’ve had to play QPR, Real Madrid, Hull, Swansea, Newcastle, Real Madrid and Chelsea – not an easy fixture list at all, and Liverpool’s poor form in the league has made them take even the Capital One Cup seriously, meaning not too many players could be rotated for the game against Swansea. In the loss to Newcastle on Saturday, the fatigue was evident as Liverpool’s attackers were all anonymous. A rest day was thus in order.

This, combined with the weird nature of the Champions League group that Liverpool are in meant that last night’s game was the “least important” for Liverpool in the current run of fixtures, which permitted them to rest key players and give a run out to the perennial subs. And on the evidence of the 1-0 defeat, it seems it didn’t go too badly. Now if only Liverpool can make use of this rest and beat Chelsea on the weekend!

Postscript

Gerrard came on around three-quarters into last night’s game. I have come to believe that is his best position for the team now. Come on as an “impact substitute” in the second half and play in the “old Gerrard role”.

Brendan Rodgers makes amends

I had been highly critical of Brendan Rodgers’ handling of Liverpool in the game at Basel in mid-week. There was a flurry of criticism all over the interwebs after that game, and no doubt a lot of it reached Rodgers. And in last night’s win against West Bromwich Albion, he seemed to make some amends.

There were a number of things in last night’s game that showed that Rodgers is again showing some imagination, after having stalled (along with the rest of the team) in recent times. For starters, Philippe Coutinho played deep, almost like a regista (deep-lying playmaker) next to Steven Gerrard. This meant that the two box-to-box midfielders Jordan Henderson and Adam Lallana could actually play box-to-box than being boxed in. This led to much better cohesion in Liverpool’s play.

Then, Rickie Lambert offered something different up front than what the static Mario Balotelli had been offering in recent times. Lambert moved – more than Balotelli, though nowhere as much as the injured Daniel Sturridge would have – and provided the focal point of attack. His touch and finishing were poor, though, and he still looks nowhere close to the player he was at Southampton. But his presence helped in another way – in that his long-standing understanding with Lallana helped them play a beautiful one-two which ended up in Lallana scoring Liverpool’s opener.

One of the great tactical games of Liverpool I’ve watched (it’s unlikely anyone else will call the tactics of this game “great”, though) was the FA Cup final against Chelsea in 2012, in what turned out to be Kenny Dalglish’s last game in charge of Liverpool in his second coming. At the hour mark, Chelsea led 2-0, and Liverpool had struggled to break past the buses that Chelsea had parked. And that’s when Dalglish introduced Andy Carroll, who had long been out of favour at the club following his GBP35m transfer from Newcastle United.

Carroll is a big guy, and he suddenly offered another route for Liverpool to attack – the first ball would be played by Brad Jones (the reserve goalie) long, and Carroll would invariably get to it, and hold it up – this turned out to be a surefire way of getting past Chelsea’s buses (and Chelsea didn’t know how to react to this change in tactic), and Liverpool pulled one back, and could have had more.

Following Carroll’s sale to West Ham United, though, Liverpool have lacked this “route two”. Last season especially, when teams proceeded to park buses in front of Liverpool, there was no way to get around them apart from the usual quick-pass-and-move route. And Liverpool suffered.

The coming of Lambert and Balotelli, though, has reopened the “route two”, and it was interesting to see Liverpool take that route several times during the game yesterday. It will be interesting to see when Sturridge comes back if Liverpool might play two up front and play the same route, but it would work better as a Plan B (IMHO).

Coming back to yesterday’s game, Balotelli’s dropping seems to have inspired him and he put in a much better performance than midweek when he came on for Lambert two-thirds into the game. He held the ball up well, acted as a great focal point and tried hard not to be caught offside. Hopefully we’ll see this side of Balotelli more as we go along.

The most interesting thing about last night’s game, though, is that in the last fifteen minutes, Steven Gerrard was back to playing in the old “Gerrard role”, with Lucas having come in to the holding midfield role. Gerrard played his old role well, and created a couple of chances following interplay with Balotelli. It showed that Gerrard is still good at what we’ve known him to be good for, except that he can’t play that way (it’s a very demanding role) for ninety minutes. Given that he’s much better in attack than defence, it’s a good ploy to get in a specialist holding guy (Lucas or Emre Can) for the last part when Liverpool is trying to close out the game.

It was only a very close win, and it came against West Brom, but it was an important three points and showed that Rodgers has started thinking again. Hopefully with the return of all the injured players after the international break, Liverpool can start playing again like they did against Spurs.

Dear Brendan Rodgers

I’m beginning to write this at 64 minutes played in Basel-Liverpool. Basel is leading 1-0, not undeservedly. Liverpool have so far been extremely poor, and deserve to have gone behind. We started well in the first ten minutes, and it seemed like an eminently winnable game, but after the tactical substitution made by Paulo Sousa, we’ve never been in it. Some pertinent observations so far.

I understand our need to have wanted to buy a world class striker to replace Luis Suarez. One might have thought the purchase of Mario Balotelli, no doubt a world class striker, was vindicated when Sturridge got injured. But Balotelli just doesn’t suit Liverpool. He is too slow. He just doesn’t move.
I don’t have the statistics (football statistics are extremely hard to come by, unlike cricket), but we need to look at the number of off sides conceded between last season and this one. Balotelli gives away too many of those. Most of them come about because of his slow movement
Raheem Sterling was due a poor game, and we are seeing one now. His touch has been poor all day today. In his defence, he was due one bad day. Except that you had no clue how to handle that.
Sousa saw the weakness in Liverpool’s left back zone with Jose Enrique, and thus decided to double up on his right wingers to attack that zone. Now, this ended up pushing Raheem Sterling back, and he has had more defending to do than what he thought would have been his share. That is understandable.
But then you need to realise that when you double up on one zone, you end up weakening yourself in another. Basel have played almost the entire night without a left back, or anyone on their left side apart from their left winger Hamoudi. They are playing a very lopsided 3-4-3. And you have done nothing so far to exploit that. Markovic has played all evening, but hasn’t been leading attacks down that wing as would be optimal. Manquillo has been leading the attacks there, with Markovic drifting inside. What we needed was Manquillo and Markovic doubling down in that unguarded zone. Haven’t seen that at all.
Then there is the centre of midfield. The two of Gerrard and Henderson isn’t simply working. Even when playing out from the back, they have consistently been stopped at the halfway line. Ok there is Gerrard and Henderson, but they haven’t had a forward pass to play! Coutinho has been lost in the crowd. And Balotelli, unlike Suarez doesn’t come back to pick the ball there. So how do we go forward from there?
Liverpool simply haven’t been picking up the second balls in the middle of the pitch today. They’ve been thoroughly outnumbered in that area – with only Gerrard and Henderson against three central midfielders of Basel. When we demolished Tottenham last December, the key was in our picking up all these second balls and keeping attacks flowing. That’s been sorely missing all day today.
Lallana’s introduction was good, but it should have been Sterling who should have come off. He is evidently extremely tired, and nowhere close to his best. We can see that in the two clear chances he’s missed since I started writing this post.
Markovic shouldn’t start. He’s not enough of a lone ranger for that. With his pace you should look to him as a super-sub. A plan B to be introduced along with Balotelli and Lambert. I just don’t see him gelling with the rest of the team. And please – someone along with Gerrard and Henderson there. I know Allen and Can are injured, but even someone like Lallana along with Gerrard and Henderson would help. The World Cup showed us how those two together in a 4-2-3-1 are ineffectual. You haven’t learnt from that.
It’s been a scrappy game so far, but a great tactical battle. There was one big question that Sousa posed – by putting on Gonzales for Safari, but you have thoroughly failed to answer that. After two moves by Gonzales, you went into a shell, and didn’t attack enough in the newly posed gap. I’m absolutely disappointed with you for that. I expected you of all people to be more tactically sound.
The best formation Liverpool has played with the available players this season was in the second half against Everton. With Gerrard-Henderson-Lallana-Coutinho-(not out of form)Sterling-Balotelli. You never even tried that in this game, while I expected you to start that way.
The game has ended as I finish this post. We have lost. Deservedly.
Maybe a you could use the services of a statistical analyst to help you figure out the gaps in play and how Liverpool should structure themselves given the available players. You can leave me a comment if you think you need one (you surely do!), and I’ll come over to help!

Derivatives trading in football players

I love it! It’s a dream come true!! It’s official!!!

Football clubs have finally wisened up to trading in derivatives on players’ contracts, it is apparent based on the transfer deadline news of yesterday. Alvaro Negredo has been loaned out by Manchester City to Valencia, but at the end of the year Valencia have an obligation to make the deal permanent. The same article mentions Fiorentina taking Micah Richards on loan, also from Manchester City. In this case, however, Fiorentina has the option to make the deal permanent after a year.

In fact, thinking about it, this kind of option trading in football contracts is not all that new. When Brendan Rodgers was initially appointed by Liverpool in 2012, he was given a three year deal, with the club having an option of extending it by a year (the deal has since been revised).

It’s all very interesting. I’ve constantly lamented that some of the great concepts in finance which are well applicable to everyday life are not applied to the extent that is required. Option valuation is one such concept, for example. I wrote to a friend just now asking why I should join a club he is exhorting me to join, given it’s not doing much now. His reply can be condensed to “option value”.

Option valuation is not the only thing. There is the concept of liquidity. A very commonly used concept within financial markets, it is surprisingly absent in general economic literature. For example, in finance it is a well understood concept that the more the number of active market participants the less is the transaction cost (measured as the bid-ask spread). The same concept can be used to analyze markets for taxis, housing, cooks (why a cook costs much more in Rajajinagar where demand is much lower than in Jayanagar), etc. You never see too many economists talking about it, though.

The problem might be that practitioners of financial economics concepts find finance too lucrative to apply their concepts elsewhere, while mainstream or left-leaning economists might find finance (especially complex derivative finance) abhorrent, and thus are loathe to borrow concepts from that (generally speculating)!

In terms of liquidity, though, things seem to be changing. My old friend Sangeet has been practically making a living over the last couple of years evangelizing the concept of liquidity, through his excellent blog on platform economics. Check out his recent post on Uber, for example. Platform economics is nothing but the economics of liquidity. The success of Sangeet’s blog shows that people are finally beginning to take the concept seriously. Still not mainstream economists, though!

Valuing loan deals for football players

Initial reports yesterday regarding Radamel Falcao’s move to Manchester United mentioned a valuation of GBP 6 million for the one year loan, i.e. Manchester United had paid Falcao’s parent club AS Monaco GBP 6 million so that they could borrow Falcao for a year. This evidently didn’t make sense since earlier reports suggested that Falcao had been priced at GBP 55 million for an outright transfer, and has four years remaining on his Monaco contract.

In this morning’s reports, however, the value of the loan deal has been corrected to GBP 16 million, which makes more sense in light of his remaining period of contract, age and outright valuation.

So how do you value a loan deal for a player? To answer that, first of all, how do you value a player? The “value” of a player is essentially the amount of money that the player’s parent club is willing to accept in exchange for foregoing his use for the rest of his contract. Hence, for example, in Falcao’s case, GBP 55M is the amount that Monaco was willing to accept for foregoing the remaining four years they have him on contract.

Based on this, you might guess that transfer fees are (among other things) a function of the number of years that a player has remaining on his contract with the club – ceteris paribus, the longer the period of contract, the greater is the transfer fee demanded (this is intuitive. You want more compensation for foregoing something for a longer time period than for a shorter time period).

From this point of view, let us now evaluate what it might take to take Falcao on loan for one year. Conceptually it is straightforward. Let us assume that the value Monaco expects to get from having Falcao on their books for a further four years is a small amount less than their asking price of GBP 55M – given they were willing to forego their full rights for that amount, their valuation can be any number below that; we’ll assume it was just below that. Now, all we need to do is to determine how much of this GBP 55M in value will be generated in the first year, how much in the second year and so on. Whatever is the value for the first year is the amount that Monaco will demand for a loan.

Now, loans can be of different kinds. Clubs sometimes lend out their young and promising players so that they can get first team football in a different club – something the parent club would not be able to provide. In such loans, clubs expect the players to come back as better players (Daniel Sturridge’s loan from Chelsea to Bolton is one such example) and thus with a higher valuation. Given this expectations, loan fees are usually zero (or even negative – where the parent club continues to bear part of the loanee’s wages).

Another kind of loan is for a player who is on the books but not particularly wanted for the season. It could happen that player’s wages are more than what the club hopes to get in terms of his contribution on the field (implying a negative valuation for the player). In such cases, it is possible for clubs to loan out the player while still covering part of the player’s salary. In that sense, the loan fee paid by the target club is actually negative (since they are in a sense being paid by the parent club to loan the player out). An example of this kind was Andy Carroll’s loan from Liverpool to West Ham United in the 2012-13 season.

Falcao is currently in the prime of his career (aged 29) and heavily injury prone. Given his age and injury record, he is likely to be a fast depreciating asset. By the time he runs out his contract at Monaco (when he will be 33), he is likely to be not worth anything at all. This means that a lion’s share of the value Monaco can derive out of him would be what they would derive in the next one year. This is the primary reason that Monaco have demanded 30% of the four year fee for one year of loan.

Loaning a player also involves some option valuation – based on his performance on loan his valuation at the end of the loan period can either increase or decrease. At the time of loaning out this is a random variable and we can only work on expectations. The thing with Falcao is that given the stage of his career the probability of him being much improved after a year is small. On the other hand, his brittleness means the probability of him being a lesser player is much larger. This ends up depressing the expected valuation at the end of the loan period and thus pushes up the loan fee. Thinking about it, this should have pushed up Falcao’s loan fee above GBP 16M but another factor – that he has just returned from injury and may not be at peak impact for a couple of months has depressed his wages.

Speaking of option valuation, it is possibly the primary reason why young loan signings to lesser clubs come cheap – the possibility of regular first team football increases significantly the expected valuation of the player at the end of the loan period, and this coupled with the fact that the player is not yet proven (which implies a low “base sale price”) drives the loan valuation close to zero.

Loaning is thus a fairly complex process, but players’ valuations can be done in rather economic terms – based on expected contribution in that time period and option valuation. Loaning can also get bizarre at times – Fernando Torres’s move to Milan, for example, has been classified by Chelsea as a “two year loan”, which is funny given that he has two years remaining on his Chelsea contract. It is likely that the deal has been classified as a loan for accounting purposes so that Chelsea do not write off the GBP 50M they paid for Torres’s rights in 2010 too soon.