An Analysis Of Penny Auctions
There are plenty of online penny auctions websites that will lure you in with their small bidding fees and their fabulously low-priced products
. It costs a certain amount to make a bid, regardless of whether that bid is ultimately successful.
If you "win" the auction you must then buy the item at the final price. It's not a lottery, because they say it is not.
At first glance, the auction looks great - buy a phone for twenty dollars or a plasma TV for two dollars! But not so fast-there are a couple of things that are not obvious to the beginner.
Every dollar of the final price represents the forty dollars in bidding fees. A one thousand dollar TV selling for one dollar is a big loss for the site.
The same TV selling for twenty five dollars is a small profit. Sold for one thousand it's a forty thousand dollar profit.
You can use a site-provided bot ("bidbot" or"bidbutler") to bid on your behalf. If two people do this simultaneously, they'll both lose a lot of money with no apparent gain.
So, is it a scam? Well, there are really two questions:
If the site is running completely as described, legitimately, and not using shill bidders (bidding on their own auctions), is this an honest way to make a living - and should you participate? When you bid, whether you win or not depends entirely on whether anyone else bids in the next fifteen seconds.
Assuming you're bidding on an item which is clearly a bargain, then the normal considerations of auctions do not apply: any rational person would bid if they could so for free. The house take is enormous.
For example, imagine on average the site sells items at a 65% discount from RRP, and bids cost forty times as much as the amount they increase the value by. This means that it costs on average (100-65)x40 to win a one hundred dollar item or in other words (100-65)x40/65=$21.50 to win one dollar's worth of value.
By comparison, a skilled blackjack player in a casino can pay as little as a dollar and a penny to win one dollar's worth of value. Most bids give no return to the bidder.
This means that even if you don't want to call it "gambling", it should still be regulated, as the potential for dishonesty is great. You don't want to be bidding for a dead donkey.
There are two main risks: the site may use "shill bidders" to bid on items that would otherwise go for a low price. This could prevent you ever winning, or cause you to spend far more than you want.
Even if you "win", the site may never ship. The whole thing could be a scam.
Fortunately, there are sites on the lookout for this kind of thing, such as "pennyauctionwatch". There is evidence of dodgy sites, such as fake testimonials.
So, what are the incentives for a site to use shill bidding? Well, as we saw above, the difference between a one thousand dollar item selling for one dollar and twenty five doesn't look like much, but it's the difference between breaking even and posting a big loss.
Imagine there is fairly steady bidding activity, but there are just a few gaps before that twenty five dollar mark. If the site could shill just a few times, they would massively increase their profitability.
Consider two strategies: bid whenever the time gets to one second, or bid immediately after anyone else bids. In the first, the shill bids guarantee almost any asking price, as long as there is still some demand.
This has the potential to greatly increase profit, and decrease variance. In the second, half the bids end up being shill bids.
This causes two problems: first, you're directly losing one bid fee for every shill bid. Second, by inflating the price, you're accelerating reaching the point at which people no longer want to bid, because the prize at stake is shrinking.
So if people might normally bid strongly up to half the value of the item, then shilling along the way is just replacing paying bids with free ones. You might even decrease the final sale value, and every dollar of sale value lost is forty dollars of bidding fees lost.
In conclusion: shill bidding seems likely to occur, in small doses, because the incentive is just so strong. The question is, can you beat them?
by: Ronald Pedactor
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