I think this explanation from Wiblin* is most likely: “Nonetheless, I think this is more likely tha[t] a broad pool of Intrade participants [were] being enthusiastic about Romney against all the evidence, and [were] unaware that they could get better odds elsewhere.” Is there enough evidence to investigate whether something more sinister is at work? I certainly don’t know the details on Intrade and other similar markets, but perhaps there should be more stringent transparency rules to prevent potential manipulations.
Implications: What has always struck me as difficult for prediction markets is the fact that they aren’t pricing an underlying “thing”; they’re pricing uncertainty itself. Even in a futures or options market, there is an underlying right to purchase at a specific price, even if that right is useless due to the current price of the commodity or stock being lower. While the options or futures contract has a potential value on a certain date, there isn’t anything of value being bought and sold on a prediction market. It’s just bets based on information that everyone will know on a specific date. So to me, all the pluses you get from other markets that pertain to large groups grappling over how to price good don’t apply to prediction markets, because there aren’t any underlying assets to price. To me, markets do a good job of rationally arriving at prices because of the constant negotiations and comparisons going on for the underlying assets. People make predictions on where market prices will go, but to me that isn’t the same as these being prediction markets. The implication of all this is that for me it’s not surprising to hear that there was such a large arbitrage potential between the prediction markets. I’m not such a believer in the efficient market hypothesis to believe that there isn’t arbitrage potential in asset markets, but I would predict that these are fewer and smaller than there would be in prediction markets. I don’t see this as an unsolvable problem, but to me it shows what prediction markets are good for, which is to keep people honest in their premises and expectations. Take a global warming discussion with a AGW proponent on one side and an AGW skeptic on another. Sans a prediction market, either person could make as dire or as rosy a claim as they like; once they start putting real money on the line, both will likely become more interested in accuracy. If all prediction markets did was to routinely get people to adhere to rational discussion (and thus adhere to Aumann’s agreement theorem), arenas such as public policy would improve immensely. So, it doesn’t matter that the Intrade bets didn’t reflect the best of odds; that just means one of the rational actors hadn’t fully adjusted yet; once their account was debited, once would assume that they were in agreement now with the party on the other end of the bet.
As an InTrade bettor, I think a lot of the mispricing is just driven by wrong beliefs. In the primary season, I could usually get good prices to short Ron Paul and I thought it was likely to be because American InTrade bettors (internet savvy, ok with questionably legal things involving money, nerdy) overrepresent Paulites. No manipulation, just sampling problems.
I assumed that demographics of InTrade made it pretty likely they’d overprice marijuana legalization, too, and I had to pull my money out of the Colorado market with a quickness once I’d heard the referendum was actually getting editorial page endorsements. :)
I think this explanation from Wiblin* is most likely: “Nonetheless, I think this is more likely tha[t] a broad pool of Intrade participants [were] being enthusiastic about Romney against all the evidence, and [were] unaware that they could get better odds elsewhere.” Is there enough evidence to investigate whether something more sinister is at work? I certainly don’t know the details on Intrade and other similar markets, but perhaps there should be more stringent transparency rules to prevent potential manipulations.
Implications: What has always struck me as difficult for prediction markets is the fact that they aren’t pricing an underlying “thing”; they’re pricing uncertainty itself. Even in a futures or options market, there is an underlying right to purchase at a specific price, even if that right is useless due to the current price of the commodity or stock being lower. While the options or futures contract has a potential value on a certain date, there isn’t anything of value being bought and sold on a prediction market. It’s just bets based on information that everyone will know on a specific date. So to me, all the pluses you get from other markets that pertain to large groups grappling over how to price good don’t apply to prediction markets, because there aren’t any underlying assets to price. To me, markets do a good job of rationally arriving at prices because of the constant negotiations and comparisons going on for the underlying assets. People make predictions on where market prices will go, but to me that isn’t the same as these being prediction markets. The implication of all this is that for me it’s not surprising to hear that there was such a large arbitrage potential between the prediction markets. I’m not such a believer in the efficient market hypothesis to believe that there isn’t arbitrage potential in asset markets, but I would predict that these are fewer and smaller than there would be in prediction markets. I don’t see this as an unsolvable problem, but to me it shows what prediction markets are good for, which is to keep people honest in their premises and expectations. Take a global warming discussion with a AGW proponent on one side and an AGW skeptic on another. Sans a prediction market, either person could make as dire or as rosy a claim as they like; once they start putting real money on the line, both will likely become more interested in accuracy. If all prediction markets did was to routinely get people to adhere to rational discussion (and thus adhere to Aumann’s agreement theorem), arenas such as public policy would improve immensely. So, it doesn’t matter that the Intrade bets didn’t reflect the best of odds; that just means one of the rational actors hadn’t fully adjusted yet; once their account was debited, once would assume that they were in agreement now with the party on the other end of the bet.
*Corrected
As an InTrade bettor, I think a lot of the mispricing is just driven by wrong beliefs. In the primary season, I could usually get good prices to short Ron Paul and I thought it was likely to be because American InTrade bettors (internet savvy, ok with questionably legal things involving money, nerdy) overrepresent Paulites. No manipulation, just sampling problems.
I assumed that demographics of InTrade made it pretty likely they’d overprice marijuana legalization, too, and I had to pull my money out of the Colorado market with a quickness once I’d heard the referendum was actually getting editorial page endorsements. :)
That post was authored by Robert Wiblin.
Thanks, I corrected that.