First things first. Thanks to Skip Sauer for the invitation to contribute to the Sports Economist Blog. Skip has done a great job of blending sports commentary with economic analysis in just the right mix. As a beginner to the blogging scene, I hope I can maintain the standards of this site for lively but insightful analysis.
I grew up in Texas and follow the Rangers and Astros closely, so the recent discussion here of the Carlos Beltran saga stirred my interest. The size of the Beltran-Boras salary demand may have been a deal killer in itself. However, their demand for a no trade clause, may have thrown sand in already grinding gears.
Most obviously, a no trade clause saps some of the decision rights from the club. As Skip noted in “Why did the Astros lose Beltran,” a no trade essentially provides the player protection on where he may end up if the club starts losing. As such, it is really an option. One can speculate with an option, but as in the Beltran case, options can be used to transfer risk. In this situation, Beltran-Boras sought to transfer risk to the club by securing control of his trade or sale should the Astros perform poorly — essentially a “put” option. As the option provider, the Astros “write” the option and take additional risk because they have limited their future trading choices.
All options that grant valuable rights contain economic value. The option buyer pays the option writer, so the no trade clause should lower the salary that a team would pay Beltran. In finance, an option’s value (premium) is determined by the interaction of the length of the option’s validity, the value and volatility of the underlying asset, and the conditions under which the option may be used. The value of the underlying asset is a key value that is clear and common to both parties.
The same principles are at work in the no trade clause, but now it is the club’s performance that plays the role of the underlying asset. Here’s where it gets tricky in the sports case. Unlike the finance case, the value of this underlying asset is not transparent nor is it necessarily the same for the option buyer and provider. For the buyer of the option, Beltran, the key value is the mental price tag that he would attach to poor performance. Suppose the Astros’ losing imposed $12 million in negative feelings on him (apx. 10% of the contract value). In a simplified case, if Beltran thought that winning and losing were a 50-50 proposition, the option would have up to $6 million in value to him (50% x $12 million). The underlying value to the Astros may differ widely from Beltran’s own personal valuation of losing. For them, the key value to consider is how much the restriction might cost them in case they need to trade or sell Beltran. As the Rangers found out in the Alex Rodriguez case, trading a player who may limit the bidders to one or two teams may involve substantial expense.
This may help explain why no-trade options create negotiation difficulties. There is also the matter of ownership-management slowly ceding decision rights to agents, but that’s another post for another day.