Free agent market and the boom and bust cycle

DMZ · December 26, 2006 at 2:48 pm · Filed Under General baseball 

We’ve made some asides in posts and comments about the “market price is market price” and “get in now” crowd, the latter of which need to have their keyboards taken from them.

Dave and I have both argued here, along with a host of smart people elsewhere, that like many markets, free agency is cyclical. New money comes into the market, Mike Hampton gets a bazillion dollars. Soon, second-tier free agents are being frozen out and crying collusion. Then more money comes in, and you get the Juan Pierre/Gary Matthews deals.

We’ve said that you’re better off investing in trades, player development, international free agents, taking on other people’s contracts, whatever – when the market for free agents gets so bad, you shop for what bargains you can get. If there’s nothing there, you’re better off walking away than doing long-term damage to the franchise.

At one point I compared people encouraging teams to spend now before prices went up even further to tulip speculators in late 1636. An even better contemporary analog is housing, though. In February last year, David Lereah (who has a dog in this race) wrote a book called “Are You Missing the Real Estate Boom?: The Boom Will Not Bust and Why Property Values Will Continue to Climb Through the End of the Decade – And How to Profit From Them” and people snapped it up.

The free agent market was compared to real estate investing: overpaying for free agents today meant you were underpaying for them next year. If you were interested in Player X and his asking price went up $10m between phone calls, you should sign him immediately because his price was going to go up again and that meant he was worth even more than his latest demand. And so on, and so forth.

Every time there’s a boom, these arguments come out: real estate is a fixed asset and can’t go down in value. Technology stocks are the product of technology that increases productivity. Tulips will always be pretty.

And the true believers end up underwater on four house mortgages, worthless shares of (the internet’s leading seller of personal and bathroom tissues), and some lovely flowers to plant in their garden.

Fortunately for purposes of our learning, we can go see the housing market stall and in some markets already recede. People who encouraged others to get involved in a bidding wars for houses are now pretending they never said anything like that. “It’s good news if the seller wants more money? Why would I ever say something like that?”

In 2000-2001, there were people arguing that a new free agent market had been established and teams were going to have to pony up if they ever wanted to sign anyone, that Mike Hampton and company would look like great values in a few years, just as today this year’s free agent contracts are heralded as the dawn of a new age. And in a few years, sooner for some of these deals, the contracts handed out will be recognized as clearly insane, the people who gave them derided for their irresponsibility. Then we’ll repeat.

Hampton did not turn out to be worth what he got just because he got it. Priceline wasn’t worth over $100 a share in the boom, even though people bought it, and analysts who pumped up Priceline at $134 a share were wrong, no matter their motivations. We’ll look at many of this year’s deals in the same light soon, but the lesson’s clear: be smart, and look to the long-term.

Anyone who has ever argued that you have to jump into an overpriced market, or that an overheated market can only ever increase is not a serious person, is willfully ignorant of both basic tenets of markets and of history, baseball and otherwise, and should not be listened to.


66 Responses to “Free agent market and the boom and bust cycle”

  1. MickeyZ on December 27th, 2006 7:34 am

    I think that one of the bigger differences between the free agent market and the real estate market is that the way you make money off your investment is totally different.

    Your team makes money because it’s an attractive product, usually this means doing better than the competition. I think the amount of value a player will add to your team depends on the team’s situation as much as the raw number of wins you expect that player to add.

    It’s doubly stupid for Kansas City to pay Gil Meche 11 million a year. Not only is he not likely to be worth it, but Kansas City is a crap team and even if Meche were good he isn’t going to change that. Clearly KC should be investing in young players and building for the future, not 11 million dollar “stars” to act as a bandaid.

    It’s probably less stupid for the Redsox to be blowing huge money on posting fees because they have a short to put out a memorable team, which earns them money in the long run.

  2. stoyboy on December 27th, 2006 7:42 am

    The FA market is OK to get one player a year that really improves your team.If a FO expects to fill your roster with FA that is fool hardy. SP’s have to be home grown because pitching is the high ticket items in the FA market from here on out(Salaries for FA pitchers ain’t coming down).The teams are making more money and the luxury tax paid to smaller markets each year is sparking them to deal(like KC this year).

  3. scraps on December 27th, 2006 8:03 am

    Is it reasonable to say that a team like Seattle could pay a free agent or two or two 4 mil per win and not be insane if they were truly a contender? Wins over 90 are worth a lot more than wins in the 75 to 87 range, right?

  4. jaysbaseballfan on December 27th, 2006 8:12 am

    It’s doubly stupid for Kansas City to pay Gil Meche 11 million a year. Not only is he not likely to be worth it, but Kansas City is a crap team and even if Meche were good he isn’t going to change that.

    Is this really that true? Can’t you argue that the ROyals are at least buying hope? Let’s just say Gil Meche remains a league-average innings eater. That’s still good to have in your rotation if the alternative is a guy with a 6.00 ERA. Is them winning the division so incomprehensible? I’m not saying its going to happen. But what if Detroit way overplayed themselves last year, the Indians are mediocre, the White Sox begin their decline, the Twins have no Liriano, and all of a sudden the Royals have great years from Ryan Shealy, Alex Gordon, Mark Teahen, Mike Sweeney, Mark Grudzelanek, Brian Bannister, Odalis Perez, Meche, Dotel and Reggie Sanders? In at least one parallel universe, they could be an alright team.

    DMZ – I wasn’t guaranteeing the baseball market will be good fr the next 5-7 years, I was arguing that. Just sayin.

    Correct me if I’m wrong – The outrageous Tejada and Delgado deals of the past turned out to be good values.

    And the AJ Burnett one last year. I think the kicker on this year’s inflation is that the players are not even that talented to begin with. Teams are so desperate for talent, that they are forced to try and buy high and hope the upside comes in. But is this really that bad? MIke Hampton is a failed contract in retrospect, going into that contract he was a good pitcher (and hitter). The moral of the story is that past performance isn’t a good indicator of future performance. There are other factors involved. That’s why everyone hates Zito. He has had a great record, but declining peripherals, pitching in a pitcher’s park, etc., makes everyone believe he’ll blow up. If you are looking at the next couple of years, the pattern we’ll see, I argue, is this: a larger amount of net money will be spent, but the talent will be better. Sure, Carlos Zambrano could make $180 million, but he’s a really good pitcher. The talent coming up the next 2 seasons is pretty good. But the problem is a lot of team’s lock up their player’s, taking them off the market. Also, all the long-contracts being signed in the modern baseball era are long, and they may result in the lesser amount of free agent talent.

  5. scraps on December 27th, 2006 8:15 am

    I don’t think you can buy hope; all you can do is borrow it at extortionate interest.

  6. Dave on December 27th, 2006 8:24 am

    Is it reasonable to say that a team like Seattle could pay a free agent or two or two 4 mil per win and not be insane if they were truly a contender? Wins over 90 are worth a lot more than wins in the 75 to 87 range, right?

    Absolutely. I think MGL/Tango have suggested the “sweet spot” of efficiency in terms of wins is somewhere around 93 or 94. Getting from 88 to 94 is huge, and if Barry Zito represented a significant portion of that (he wouldn’t, but this is a hypothetical), the Mariners could probably justify his acquisition. It wouldn’t be the best idea, but it would be an acceptable risk/reward trade-off.

    But they clearly aren’t in that position. He’d get them from 82 wins to 84 wins, and they’d still miss out on all that playoff revenue goodness.

    But, yes, for a team like the Angels this year, spending $4 million per win on a legitimate difference maker is totally justifiable, and I’d support that kind of move as an Angel fan. Unfortunately for them, they spent $5 million per win on Gary Matthews Jr.

  7. metz123 on December 27th, 2006 9:44 am

    Sure. We’re making all these statements under the assumption that the Mariners aren’t going to start spending $150 million on player payroll next year. Considering their track record and public statements, that’s a pretty safe bet.

    But you also have to consider the budgets of all MLB teams. You can’t just state that the market will correct because the M’s have a budget that they’ve capped at $90 million or so. If the other 27 teams decide to increase their budgets by 20%, you will see a corresponding jump in salaries (simply because the pool of free agents is limited and fixed in size).

    You also can’t apply macroeconomics to a microeconomic situation. The impact of the economy at large has little to do with the economic situation as it applies to baseball ownership. In baseball you have 28 individually owned entities. At any given point in time a single entity can deviate from the norm and affect the entire market (see Tom Hicks). Even if the decision is “stupid” it affects the rest of the market. The Mike Hampton deal set the bar for later contracts. The A-rod deal (while never surpassed) again raised the bar for future free agent deals.

    The only time MLB owners have managed to hold salaries down for any length of time was when they colluded. Without collusion, they just can’t stop themselves (collectively or individually) from spending more each year. Even with a form of collusion in place for the draft, you still get teams offering value outside their slot to make sure they get the players they want.

  8. JMHawkins on December 27th, 2006 9:54 am

    Surely the biggest reason that this bubble will never last is because players are so cheap for their first 6 years, and owners will realise that it’s far more efficient to use essentially free young players than ludicrously overpriced veterans?
    The people giving out these contracts are going to get fired in large part due to these contracts. Eventually, major league teams will stop hiring people like Jim Hendry.

    Dave, while I agree with all the underlying sentiments, I have to ask – what makes you think it will ever change? Free Agency is not exacly new – it’s been around for three-plus decades now. A couple of generations of Front Offices have come and gone, and we still see the big contracts. What is new that will change the FA market?

  9. Dave on December 27th, 2006 10:12 am

    What is new that will change the FA market?

    The gaining acceptance of non-baseball men into influential positions in baseball operations departments. Despite Moneyball’s flaws, we can probably thank Michael Lewis for opening the eyes of many owners to a new way of running their organization. The St. Louis Cardinals owner, for instance, read the book, demanded implementation of some of the Moneyballistic ideas, and the old school Cardinals went out and hired Jeff Luhnow straight out of corporate America, and he has instituted all kinds of changes to the way the Cardinals draft, scout, and evaluate players.

    The new wave of GM candidates are guys like Chris Antonetti who have law or business degrees and little or no professional baseball experience.

    From Jon Daniels to Josh Byrnes and Andrew Friedman, we’re seeing more organizations shift away from experience and going towards academic education.

    It’s not going to happen overnight, but baseball owners are businessmen, and they’re getting on the train of established business principles. “Trust my scouting instincts” isn’t going to pass as a reason to give out a $100 million contract for much longer.

  10. mfan on December 27th, 2006 10:38 am

    As with any input into production, the value of a player is measured by the additional revenue they can generate. There are two primary avenues through which players can increase team revenue. First, players like Ichiro! have a direct impact on revenue because people come to the park to see players like him regardless of the quality of the rest of the team. Second, players add to revenue indirectly by increasing the quality of the team, leading to more wins and more fans. To suggest that the macroeconomic conditions present at a given time do not impact a player’s value is at best misguided. Clearly, macroeconomic conditions do have an impact, through fans’ willingness to spend money on baseball. Assuming some correlation between the value of a player and the price owners are willing to pay, the “market” prices depend on macroeconomic conditions as well.

    Now for the real question: How related are a player’s value and their price? Obviously, it varies. Some players are underpaid (many players in their first six years are vastly underpaid relative to their value) while others are overpaid. For teams on a fixed budget, the key to success in baseball is finding ways to underpay players, which is what has made the A’s so successful. This is why players in their first six years are so precious. There are other ways to underpay players. For example, one could wait until there is a relatively small pool of funds for GM’s to spend and purchase free agents at that time, which, I believe, is what the authors of the site are suggesting. Purchasing free agents when the pool of funds is large (as it is this year) makes it likely the team will overpay.

  11. Dave Clapper on December 27th, 2006 10:42 am

    Miguel Tejada had the three best years of his career at 28, 29, and 30 after signing his big contract. That’s highly unusual. If you’re counting on a free agent to play better than they ever have before, it’s a sure sign that you don’t know what you’re doing.

    While it’s highly unusual for a player to have his three best years after signing a large contract, I don’t think it should have been unexpected in the case of a player like Tejada. 28, 29, and 30 are peak years. If a player that good becomes available at 27 (or younger), the risk of overpaying is much less than it is for the vast majority of “big name” FA’s, who tend to be in their thirties.

  12. Mat on December 27th, 2006 11:20 am

    This offseason reminds me of an NBA offseason. Every year, bad teams in the NBA try to acquire expiring contracts and shed as much payroll as they can, so that they have lots of “cap space” going into the offseason. Then, regardless of the talent available they spend all of the money they have until they reach the salary cap. So in years with good players available, teams get good deals, and in years without good players available, teams get albatross contracts.

    It’s not the same number for each team in baseball, but each team has a practical limit for how much money they are going to spend in any given season. Thanks to the new revenue streams, a lot of teams had a bunch of extra cap space this year and they were itching to spend it.

    If you’re hell bent on spending up to your limit, the smart teams are the ones spending that extra money on short-term deals that don’t hamper their flexibility or on long-term deals to legitimately premium talent (Matsuzaka). The bad teams have committed a bunch of long-term money to players who figure to be replacement level in two or three years and aren’t that much above replacement level now. Soon enough, they’ll be looking to shed those contracts and start the process of blindly snapping up whatever free agents are available whenever they have some money to spend.

    It’s all more transparent in the NBA, because everyone knows where the spending limit for each team is set, but that’s the analogy that I see here.

  13. Mike G. on December 27th, 2006 11:58 am

    The M’s should fire sale the team this year. Use all that extra money to invest in tract home real estate and development in say the Phoenix metro area. Then sell high in five years. Then in the offseason going in to the 2012 season spend 300 million on free agents. Voila, automatic WS Champs! I mean, neither market is ever going to go down, right? I see this as the way to exploit them both.

  14. Gomez on December 27th, 2006 7:37 pm

    Thank you thank you thank you squared for making this point. I agree completely on all fronts, and believe that not enough people understand the cyclical nature of doing business, get too caught up in the moment and try to coerce everyone around them into sharing in the participation of dumb mistakes like overpaying for the flavor of the month.

  15. MickeyZ on December 27th, 2006 7:52 pm

    #54, I think that when you’re as craptastic as Kansas City, you have to actually break down and rebuild and not pretend that guys like Gil Meche are bringing you hope. They lost 100 games last year!

    This is a sore point with me because I think the M’s should have been rebuilding last year or the year before, and not kept trying to sign a few free agents and rely on hope that something miraculous would happen. If they had gutted out a few rebuilding years we might be in a lot more hopeful position now. There is always a way to squint at your team and see it as not that far off from competitive, but I think you’re a lot better off doing the hard work assembling a good team and not hoping for miracles.

  16. bookbook on December 28th, 2006 6:12 am

    + If you believe that this market surge won’t be followed by a correction, you’re arguing that this is a unique surge in spending that has never been seen before in MLB. There’s no reason to believe that’s true. +

    Definitely, there’ll be a correction. I don’t agree the correction will come right away. Because of higher revenue streams, I’m not convinced the correction will correct below this year’s values (disregarding the truly stupid Matthews/Pierre/Meche deals for the moment). I bought my house for $300K. It’s “worth” about $100K as far as I’m concerned. It will correct in the next two years down to about $400K from a high of $490 or so.

    + Miguel Tejada had the three best years of his career at 28, 29, and 30 after signing his big contract. That’s highly unusual. +

    Agreed. He was an MVP before the contract, so I had assumed he hadn’t raised his game as much as he actually has. Off-topic, I wonder if the A’s park was particularly poorly suited to him? I generally expect shortstops and 3B’s to peak early, not late.

    + No, [The Sexson deal] is that bad. +

    I will take your word for this. I never expected anything nearly as good as Mr. Sexson’s 140 OPS+ in 2005 (I thought he’d be injured, to be honest). I would have thought a hitter who rakes in a ballpark where most fail to do so would potentially be worth more. I seem to have fallen for the famous Glenn Davis fallacy.

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