Science says casinos could make Wall Street riskier
New York voters this week approved a proposition that will allow four casinos to open in upstate New York, and three more to open in or around New York City after seven years have passed. The potential issue for Wall Street is that according to recent scientific research, the mere presence of nearby casinos encourages investors to take riskier investment positions.
A recent scientific study by Chi Liao, a Ph.D. student at the University of Toronto's Rotman School of Management, found that when a new casino opens, nearby investors who are likely to frequent the casino start to take on riskier position in stocks.
So when casinos eventually open a subway ride away from Wall Street, will we see investment professionals start to take on more risk en masse?
"Once a casino opens nearby, those people who are likely to be gamblers—basically, higher-income, older males—subsequently take on more risk in their own portfolios," Liao told CNBC.com. "Investment professional do do this for a living, so they might be less prone to being affected," but "we'll have to see what the data says."
To perform her research, Liao took a set of data showing household portfolio positions and trades from 1991 to 1996. She then used demographic information to model how likely investors are to gamble. (Unsurprisingly, she found that older, higher-income married males are more likely to be gamblers.) The next step was to find cases in which a casino opened within 50 miles of the investors who were likely to gamble. Once she narrowed these people down, she was able to conclude that these investors took on more risk in stocks once a casino opened near them, relative to those who were unlikely to gamble at a casino.
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Liao says that the effect could be caused by "excitement from the initial risk-taking." If investors play at casinos, then that might "make it easier to invest in a position or an asset that's riskier in nature," she said.
One bright side in Liao's research is that "likely gamblers earn higher returns as a result of this shift in risk exposure, relative to unlikely gamblers, suggesting that the increased portfolio risk exposure does not go unrewarded," she writes in her October paper, entitled "Risk Taking Begets Risk Taking: Evidence from Casino Openings and Investors Portfolios."
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However, even though they are increasing their returns, these likely gamblers "do not improve the overall mean-variance efficiency of their portfolios," meaning the higher returns are purely a result of taking on more risk (rather than resulting from an increase in alpha).
Another potential impact of casinos opening near Wall Street? Gaming stocks could get a boost.
"You buy what you know, " Liao said. "If you own a Ford car, you're more likely to invest in Ford. And the same thing could happen with casinos, potentially."