Everyone is making a fuss over Obama's choice for VP, Senator Joe Biden. While I tend to discount the degree to which a Vice-President can positively change a candidate's chances come election day, it is certainly true that a bad VP choice can hurt a campaign. Part of the reason I believe W's selection of Cheney was so intelligent was that Cheney's long tenure in politics bolstered Bush's public image. Bush had some degree of experience as a governor, and that was helped (or at least wasn't hurt) by Cheney's much larger amount of experience. Biden's long tenure in Congress gives him indisputable experience. His experience will be either a boon or a hindrance to Obama. The Biden effect could thus give Obama that extra bit of political capital his campaign needs, or it could illustrate in crystal-clear terms just how green Obama really is.
Republicans and Democrats are responding in typical form. Because Biden has such a long voting record, it's easy to find votes where he's disagreed with Obama's philosophy. And because Biden was running against Obama for a short period of time, Republicans have found clips of Biden using the same type of rhetorical attacks on Obama that they themselves are employing today. Now, McCain will be succumb to the same criticisms if he chooses a running mate from his former competitors, so I don't really take those criticisms seriously. What does give me pause is that Republican/conservative blogs and pundits seem to be going crazy, saying his voting record and political personality are lightweight. They don't take Biden's record seriously, and if that sentiment carries over into moderate voters, it could spell trouble for Obama. But hey, he still has an almost 2:1 lead in the markets, so what do I know...
Saturday, August 23, 2008
Friday, August 22, 2008
Are markets an accurate reflection of reality?
A recent poll from August 20th shows McCain actually beating Obama by five points, which is not insubstantial, considering that McCain has been trailing Obama in the polls since his nomination was locked in. Now, this should be taken with a grain of salt, considering that according to the BBC the two are in a virtual dead-heat; most other polls show a statistically insignificant difference between the two. Considering that McCain's fundraising has of late been outpacing Obama's, the polls make some sense. What I find puzzling about all this is that the prediction market intrade.com still shows a substantial difference between the two. As of 6:15PM Pacific Standard Time, Obama was trading at 58.4, and McCain at 36.1. If you do the math, that gives Obama a more-than 20-point lead over McCain, a decidedly different picture from that painted by the polls.
What are the reasons for this discrepancy between what the financial markets and the poll market are saying?
I can think of a couple of reasons offhand, all of which may bear some relevance. Most obvious is that the poll was presumably conducted using a sample made up of US citizens whereas the financial markets are nearly free for anyone in the world to use. If a disproportionate number of foreigners possess an illogical amount of faith that Obama will win the election, this could account for the price-probability discrepancy between the two candidates.
While this seems a nice way of explaining the discrepancy, I find it lacking. Financial markets know more - a whole lot more - than any one, or ten, or one-hundred of us. My intuition is to believe that they know something unique. Now, the poll, (a joint Zogby/Reuters venture), is certainly statistically sound, and the margin of error (+/- 3 percentage points) is less than the difference between the candidates. But does it really make sense that the market knows more about how we will vote than we do?
Not to me, at least. It could be that the financial markets haven't had time to adjust yet, (which is itself a somewhat dubious proposition). I'll try to think of some possible explanations over the next few days...
What are the reasons for this discrepancy between what the financial markets and the poll market are saying?
I can think of a couple of reasons offhand, all of which may bear some relevance. Most obvious is that the poll was presumably conducted using a sample made up of US citizens whereas the financial markets are nearly free for anyone in the world to use. If a disproportionate number of foreigners possess an illogical amount of faith that Obama will win the election, this could account for the price-probability discrepancy between the two candidates.
While this seems a nice way of explaining the discrepancy, I find it lacking. Financial markets know more - a whole lot more - than any one, or ten, or one-hundred of us. My intuition is to believe that they know something unique. Now, the poll, (a joint Zogby/Reuters venture), is certainly statistically sound, and the margin of error (+/- 3 percentage points) is less than the difference between the candidates. But does it really make sense that the market knows more about how we will vote than we do?
Not to me, at least. It could be that the financial markets haven't had time to adjust yet, (which is itself a somewhat dubious proposition). I'll try to think of some possible explanations over the next few days...
Thursday, August 7, 2008
Political prediction markets
While I was attending college, one of my economics professors would semi-regularly base part of his class discussions off of prediction markets. A prediction market is, most simply, a financial market that is based upon whether events occur in a specified manner. According to Wikipedia:
Prediction markets are speculative markets created for the purpose of making predictions. Assets are created whose final cash value is tied to a particular event (e.g., will the next US president be a Republican) or parameter (e.g., total sales next quarter). The current market prices can then be interpreted as predictions of the probability of the event or the expected value of the parameter. Prediction markets are thus structured as betting exchanges, without any risk for the bookmaker.
Other names for prediction markets include predictive markets, information markets, decision markets, idea futures, event derivatives and virtual markets.
People who buy low and sell high are rewarded for improving the market prediction, while those who buy high and sell low are punished for degrading the market prediction. Evidence so far suggests that prediction markets are at least as accurate as other institutions predicting the same events with a similar pool of participants.
(Prediction Markets, 8/7/08)
Prediction markets are extremely useful as an informational tool. Take for example, a small market (10 people) of investors betting on whether a stock will rise. The combined knowledge of those investors is necessarily larger than the information held by any one, but can it really be very accurate? The marketplace, the millions of parties that transact on a daily basis to form an ultimate outcome, will necessarily have a better idea of what is likely to happen than can a small group of investors, however smart each one may be.
What happens if we take the same investment opportunity - whether a stock rises - and open up a market? Anyone who wants is then entitled to make a short or long purchase of the stock, essentially betting on whether the price will go up or down. With many thousands, and often millions, of investors betting on whether a future event occurs, and with each of their decisions contributing to a final price, we have a prediction-machine with more knowledge than any one, one-hundred, or one-thousand of those investors could know individually.
The beauty of this is that the profit-motivation that each individual feels is transformed into a relatively reliable prediction-mechanism. Governments, firms, and individuals can then assess the situation based upon what the prediction market is saying will happen, and alter course accordingly.
There are prediction markets for the outcome of presidential races, not just stock performance. Right now, I've got roughly $500 riding on whether one of the American candidates wins the election. Now, because the futures on this market are liquid (i.e., they are futures, not forwards), I can sell anytime I want. Each security price is expressed as a number out of 100, for cents on the dollar. So, if the market says my candidate's chances are 10% better than when I purchased the futures, my net worth increases ten cents on the dollar. I am free to trade out for money if I am contented with this modest increase, or, if I feel really sure my candidate will win, I can wait until the election. If my candidate then wins, the future expires, and I either get $1 per purchase, or nothing. I think it's pretty darned cool. I'll either have a much better or a much worse opinion of my gamble come November.
A good friend and fraternity brother of mine in college took exactly the opposite position, rather forcefully. He saw this as gambling, and not just on the outcome of a pair of dice, but on our nation's political future. He thought that America's future was too serious a thing to toy with in what is essentially a political casino and that any prediction markets based off of the results of a presidential election were immoral and irrational. I can see his point, to a degree, but I'd make the couterargument that whether the largest companies in the country turn a profit might have a bigger impact, in practical terms, on our lives than the results of a presidential election. Seeing as how active prediction markets operate for the economy as a whole, I see no problem with "gambling," or as I like to call it, increasing the accuracy of the future-predicting machine.
Go to intrade.com if you want to try some of this out for yourselves.
Prediction markets are speculative markets created for the purpose of making predictions. Assets are created whose final cash value is tied to a particular event (e.g., will the next US president be a Republican) or parameter (e.g., total sales next quarter). The current market prices can then be interpreted as predictions of the probability of the event or the expected value of the parameter. Prediction markets are thus structured as betting exchanges, without any risk for the bookmaker.
Other names for prediction markets include predictive markets, information markets, decision markets, idea futures, event derivatives and virtual markets.
People who buy low and sell high are rewarded for improving the market prediction, while those who buy high and sell low are punished for degrading the market prediction. Evidence so far suggests that prediction markets are at least as accurate as other institutions predicting the same events with a similar pool of participants.
(Prediction Markets, 8/7/08)
Prediction markets are extremely useful as an informational tool. Take for example, a small market (10 people) of investors betting on whether a stock will rise. The combined knowledge of those investors is necessarily larger than the information held by any one, but can it really be very accurate? The marketplace, the millions of parties that transact on a daily basis to form an ultimate outcome, will necessarily have a better idea of what is likely to happen than can a small group of investors, however smart each one may be.
What happens if we take the same investment opportunity - whether a stock rises - and open up a market? Anyone who wants is then entitled to make a short or long purchase of the stock, essentially betting on whether the price will go up or down. With many thousands, and often millions, of investors betting on whether a future event occurs, and with each of their decisions contributing to a final price, we have a prediction-machine with more knowledge than any one, one-hundred, or one-thousand of those investors could know individually.
The beauty of this is that the profit-motivation that each individual feels is transformed into a relatively reliable prediction-mechanism. Governments, firms, and individuals can then assess the situation based upon what the prediction market is saying will happen, and alter course accordingly.
There are prediction markets for the outcome of presidential races, not just stock performance. Right now, I've got roughly $500 riding on whether one of the American candidates wins the election. Now, because the futures on this market are liquid (i.e., they are futures, not forwards), I can sell anytime I want. Each security price is expressed as a number out of 100, for cents on the dollar. So, if the market says my candidate's chances are 10% better than when I purchased the futures, my net worth increases ten cents on the dollar. I am free to trade out for money if I am contented with this modest increase, or, if I feel really sure my candidate will win, I can wait until the election. If my candidate then wins, the future expires, and I either get $1 per purchase, or nothing. I think it's pretty darned cool. I'll either have a much better or a much worse opinion of my gamble come November.
A good friend and fraternity brother of mine in college took exactly the opposite position, rather forcefully. He saw this as gambling, and not just on the outcome of a pair of dice, but on our nation's political future. He thought that America's future was too serious a thing to toy with in what is essentially a political casino and that any prediction markets based off of the results of a presidential election were immoral and irrational. I can see his point, to a degree, but I'd make the couterargument that whether the largest companies in the country turn a profit might have a bigger impact, in practical terms, on our lives than the results of a presidential election. Seeing as how active prediction markets operate for the economy as a whole, I see no problem with "gambling," or as I like to call it, increasing the accuracy of the future-predicting machine.
Go to intrade.com if you want to try some of this out for yourselves.
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