Economics of trading: Buy early, sell late

Last year, I wrote an article discussing the concept of making your trades now rather than closer to the deadline. This year, I’d like to expand on this idea and look at it in economic terms.

A fundamental economic concept is that of supply and demand. Essentially, it says that in a given market, the price of a good will be determined by the interaction of supply and demand, which are influenced by the buyers and sellers of the good. Supply, in a market, is simply how much of the good in question is available for purchase at a particular price. Demand is how much of the good buyers are willing to purchase at a particular price.

Here is a basic supply and demand graph that we’ll be using throughout this article.

The point where the supply and demand curves intersect (in a properly functioning market) determines the price and quantity of the good. For today, the price is what we really want to focus on. In this case, we’ll say that the average market price of a player is five (where the curves intersect). The numbers on the axes of the graphs we’ll use today are arbitrary and don’t refer to anything specific. They are just there to provide some context for later when we start shifting the supply and demand curves.

While the above graph shows the average yearly trade market, things can look very different at various points in the season. When working with supply and demand models, there are several determinants of both that, when examined, can tell us how the curves would shift in a given situation and how price would be affected. Let’s take a look at these determinants and put things into the context of the fantasy baseball trade market.

Demand

Here are the five primary determinants of demand:

1. Income
   
2. Price of related goods (substitutes/complements)
   
3. Tastes and preferences
   
4. Expectations of buyers
   
5. Number of buyers

First, I should point out that we’ll be examining these things in the context of the market as a whole. If a single person begins to like a product more (tastes and preferences), his individual demand for that product might rise, but we won’t concentrate too much on this. For the market demand to increase for that good, the aggregate preference for a product must increase. A single person liking the product more would increase the market demand a tiny bit, but not significantly.

That being said, let’s look at these determinants of demand in the context of fantasy baseball and how changes in each would affect the trade market as a whole.

Income
Income is essentially the means that a person has to make a purchase. In real life, this refers to money. In fantasy baseball, it refers to the players (or draft picks, FAAB dollars, etc. in keeper leagues) that are available to trade. This will fluctuate from person to person, but as we’re looking at the market as a whole, it won’t change much through the year. It might change a little bit with minor league call-ups or player injuries or other roster moves, but to simplify things we’ll say that this remains the same throughout the year.

Price of related goods
Price of related goods deals with two types of goods: substitutes and complements. As an example of a substitute, assuming people don’t have a preference, if the price of Coke goes up, the demand for Pepsi will rise. In fantasy, let’s say that the owner of Carl Crawford is demanding a David Wright-caliber player in return. Since few people would pay that, the demand for a guy like Jacoby Ellsbury would increase as the people who were interested in Crawford have shifted their attention to other base-stealers.

Complementary goods aren’t really very relevant in fantasy baseball.

Tastes and preferences
Tastes and preferences can vary from league to league. Maybe you have a couple of owners who love New York Mets players. That would drive the market demand for Mets up. Maybe you have a few owners who like to own five closers at a time, or maybe a few teams are bunched up in the saves pack and would like to acquire another closer to jump ahead. The demand for closers would increase here. Maybe you’re in a league with a bunch of stat nuts and DIPS followers. Last year, that might have meant an increase in demand for guys in the Javier Vazquez/-Kelvim Escobar mold.

You can account for these things on your own, but for right now, we’re going to assume that tastes and preferences are the same from league to league. Also, when looking at the market as a whole, this stays constant.

Expectations of buyers
Expectations of buyers has to do with the individual views of each owner. If you have a bunch of owners who use metrics like BABIP and LOB percentage, the demand for a guy like Johnny Cueto or Brett Myers will be higher than in a league where owners think that a guy with a 5.00 ERA will continue to post a 5.00 ERA. Looking at the market as a whole, though, these expectations will likely remain constant throughout the year (unless owner change philosophies mid-year).

Number of buyers
Number of buyers is where the primary point of this article comes into play. In real life, let’s say six billion people would be willing to buy a computer for $1. The computer company, seeing such a high demand, realizes that it can raise the price and still get a lot of people to buy it. The company will lose some people willing to buy at $1, but make more money overall as long as the price doesn’t go too high. Maybe the company raises the price to $1,000 and now only 500 million people are willing to buy one. Even so, the computers will now bring in $500 billion total as opposed to $6 billion.

The same goes for fantasy. If five people are interested in Brett Myers and offering equal deals, the owner of Myers can increase his asking price. All he needs is one person to pay the price, so he can keep raising it until one person remains. If he goes too high and asks for Lance Berkman, then we see the effect of “price of related goods.” Instead of Myers, those buyers might instead try to trade for Bronson Arroyo. But until Myers’ owner asks for too much, the price rises when we see a lot of potential buyers.

This leads me into the heart of today’s article. The number of buyers in the trading market is at its lowest right around now. Through May, owners are reevaluating their teams and making trades to fill spots that they realize weren’t adequately filled on draft day. In July and August, the trade deadline approaches and owners are scrambling to acquire whatever they need for the stretch run. Right now, though, there is a lull in many leagues.

Since there are fewer buyers, market demand decreases. Here’s how our demand curve would shift from it’s average yearly position at this time of year.

As you see, when demand decreases, so does the price (look at where the new demand curve intersects the supply curve; the price is now four, down from five).

If you choose not to make your trades now, but rather wait until the trade deadline when there are a lot of buyers (and aggressive ones, at that), here is what would happen to the price as demand increases.

As you can see, price rises as demand increases.

So how should you best take advantage of this? Buy early and sell late! Now, every trade has to involved two parties, but in many, there is a distinct buyer and seller. Just last night I played the buyer in my favorite league. Here’s the trade; you try to figure out which side is the buyer and which is the seller. Keep in mind that it’s a keeper league.

Jose Reyes, Carl Crawford, and Micah Owings
for
Evan Longoria, Hiroki Kuroda, Wladimir Balentein, a fourth round pick, and a 10th round pick (both in a minor league draft the league will hold in a couple of weeks to draft the players just taken in the MLB amateur draft).

Here, I think it’s pretty obvious that I’m “buying” Reyes, Crawford and Owings, as I’m playing to win this year, and the other owner is “selling” these players for parts that will help him in the future.

I think I got a pretty good deal by buying now, but this isn’t even what I like most about the deal. If I am to compete this year, I need to catch up in steals and runs. Reyes and Crawford should help me do this, but if come deadline day I don’t think I can win, I can trade these two. There will always be owners looking for steals, and because of the economic concepts we’ve just discussed, I think there’s a pretty good chance I’ll be able to spin these two off for a good deal more than what I paid for them.

Essentially, because of my understanding of these concepts, the decision to make this trade didn’t come down to whether I thought I could compete this year, as it normally does in a keeper league (and as it would had I waited until the deadline). It came down to how little I could acquire these two for. I can trade for them now and try to compete this year. I should be able to, but if I catch some bad luck or a few injuries, I didn’t throw away my future. I essentially get to test drive these guys for the next couple of months, see if I can win, and if I don’t think I can win, I have the option of trading them for—quite likely—more than what I started with.

Additional benefits of this strategy

Even if we were to completely ignore supply and demand, there are some very good reasons for buying now and selling later. Read this quote from Andy Behrens in a recent article over at Yahoo!’s RotoArcade blog:

Lots of owners also refuse to deal now, in May, when the players you might acquire have four months of stats ahead of them. Instead, people tend to wait until deadlines approach in August…and then they realize that the 25 steals they need are either A) prohibitively expensive, or B) impossible to get from any single player.

Scott Swanay discussed a similar idea related to FAAB planning two weeks ago at the Fantasy Cafe:

Think about it for a moment—a player added at the halfway point of the season will carry approximately half the weight over the course of the season on your team’s results as a player you add at the end of the first week. Thus, a rational fantasy owner should budget nearly twice as much for acquisitions at the end of Week 1 as they would for acquisitions at the end of Week 13. Of course, many owners do exactly the opposite…

This makes lots of sense. Right now, if you’re 15 steals out of the pack, picking up Ichiro Sukuzi would make it a lot easier to catch up than if you were to trade for him at the end of July. Getting him now might net you 30 or 35 steals by year’s end; trading for him in July might get you only 15 or 20, at a time when you might have fallen to 40 out of the pack. Ever heard the expression “too little, too late”?

This is also excellent reasoning for holding onto your best players until the trade deadline. Not only will you maximize your return on the player, but you will reap his stats until then. Let’s say you’re in the middle of the pack in pitching, but this is mostly due to bad luck. Maybe you own Josh Beckett and Johnny Cueto and Bronson Arroyo and Clay Buchholz. You know that they should be expected to provide good stats going forward, but you’re current team stats are mediocre. So instead of trading your Johan Santana now, you wait until the trade deadline to trade him.

His excellent stats should help bring your ERA and WHIP down for the time being (since you have ground to make up), but then you can trade him for hitting at the deadline once you’re caught up in pitching. You won’t receive as much hitting help as you might receive now, getting only a couple of months of production, but you need to allocate your resources in the best way you can. Maybe hitting isn’t as big a priority as catching up with pitching. And when you do trade for the hitting, you won’t get as much time out of it, but the quality should be better.

Words of warning

In our discussion of supply and demand up until this point, we’ve kept supply constant. In real life, though, things aren’t always held constant. Supply and demand can shift simultaneously, so I’d like to make you aware of some situations where supply will shift, potentially making this an unfavorable strategy to pursue.

Here are the five primary determinants of supply:

1. The prices of inputs used to produce the product
   
2. Technology
   
3. Taxes and subsidies
   
4. Price expectations
   
5. Number of suppliers

Price of inputs, technology, and taxes and subsidies
These three really don’t have a parallel in the fantasy baseball trade market. Minor league call-ups increase the supply of available players (and injured players decrease it), and you could maybe classify this as technology, but overall there isn’t much here to discuss.

Price expectations
Here is where we could run into some trouble. If you have an owner who understand these supply and demand concepts, he’ll be far less likely to sell his good players early, knowing that he’ll be able to get more from them closer to the trade deadline. When he restricts which players he’s willing to sell, the overall supply of players decreases. Here is a graph showing what happens when supply decreases:

Price rises!

Number of suppliers
In the case of the fantasy baseball trade market, this is very similar to “price expectations.”

I mentioned earlier that at this time of year, the number of buyers is reduced in a lot of leagues. When examining your league’s trading market, you must also see if the teams that aren’t buying are also unwilling to sell. If some teams simply don’t want to trade at all at this point in the season, supply will decrease along with demand. What happens to price depends on how much each moves. If, for example, all the teams that are unwilling to buy are also unwilling to sell (and visa-versa), supply and demand would decrease at the same rate, leaving price the same. Look:

This looks a little confusing, so the big black dot marks where the new supply and demand curves intersect. Quantity drops, but what we’re really concerned with is price, which stays exactly the same. If the situation were different and demand falls more than supply, price falls. If supply falls more than demand, price rises.

We need to remember, however, that this is assuming other owners know that the overall market supply has decreased. In real life, this is pretty obvious to firms. In fantasy leagues… not necessarily.

For example, the owner of Jacoby Ellsbury would need to know that Carl Crawford’s owner isn’t interested in trading before he raises his price because of this. If he thinks Crawford is on the market, in his mind supply is the same, and he doesn’t have this justification to raise his own price (he might due to other reasons, but not because he knows that other owners looking for steals have one less option).

If you’re in an active league where owners are constantly talking to each other, you will likely see an increase in price because they’ll know which owners are willing to trade and which aren’t. If you’re in an inactive league or in a league where owners think only about their own teams, then price could stay the same.

This logic applies to all of our determinants of demand as well. For the market to shift the way it theoretically should, owners in the league need to be aware of what’s going on (though they needn’t be aware of how supply and demand actually works; that will work itself out).

Examine your league’s trading market

No league’s trading market is exactly the same, but I hope the concepts we discussed today can help you to evaluate your specific league’s trading market. Factor everything in, and if it seems like now is a more favorable time to buy than a few months from now will be, then do it!

Concluding thoughts

We’ll be looking further into the trading market in terms of economics in the coming weeks. If you have questions on today’s discussion, feel free to send me an e-mail.