Tuesday, Jul 17, 2007
Hillary's ahead
Predictive market bets have Clinton at 32.8% to win presidency; Obama, 18.3%
By Jay Cooper, Pensions & Investments
According to prediction market intrade.com, Sen. Hillary Clinton has a 32.8% chance of winning the 2008 presidential election. It is still early in the presidential race, but so far, the smart money is on Hillary Clinton.
Ms. Clinton has a 32.8% probability of winning the presidency, greater odds than any other Democrat or Republican, according to a public that has put its money where its mouth is.
Barack Obama is a distant second, his probability of winning the election coming in at 18.3%, followed closely by Rudy Giuliani, with a probability of 18%, according to www.intrade.com, a prediction market that allows the public to buy contracts that pay out if a particular outcome or event takes place, ranging from political elections to whether bird flu will break out in the U.S. to the likelihood of hurricanes ending in the letter N or P this season.
Like an options market, prediction markets generate prices on the likelihood of an event occurring.
Ms. Clinton has a 48.6% probability of winning the Democratic presidential nomination, according to the Intrade market. Barack Obama has a 30.9% probability of winning the nomination, and Al Gore has a 9.3% probability of stepping in and winning it, while John Edward's probability is 5.1%.
For Republicans, Rudy Giuliani has a 32.2% probability of winning the party nomination, followed by Fred Thompson at 30.5%, Mitt Romney at 21.1% and John McCain at 10.7%
Most of those candidates have a low probability of winning the overall election, though, according to Intrade: 15.8% for Mr. Thompson; 9.8% for Mr. Romney; 7.9% for Mr. Gore; and 3.1% for Mr. Edwards.
Prediction markets allow people to buy contracts related to current events outside of politics, as well. As of noon on June 22, the Intrade market put a 15% probability on the U.S. or Israel conducting an air strike on Iran by the end of the year.
Predictive markets allow participants to buy contracts on the likelihood of a host of other events, from potential mergers - the Intrade market says there is a 12% probability of a News Corp. and Dow Jones merger this year - to the likelihood of I. Lewis "Scooter" Libby receiving a pardon from President Bush (77.7%).
"The things that keep people awake at night will be asked in a prediction market," said John Delaney, chief executive officer of Dublin-based Intrade the Prediction Market.
Intrade is one of the most popular predictive markets, but others exist, including Iowa Electronic Markets, Washington Stock Exchange and NewsFutures.
Paying Attention
Strategists and economists at money management firms pay close attention to predictive markets, using them as a forecasting tool or a barometer to measure public sentiment about current events. When an event does or does not occur, investors using the prediction markets say they have better insight into how an individual stock price or entire stock market will react because the prediction markets accurately tell them what the public is expecting, and individual stocks and the market overall are affected in part by the public's reaction to an election or current event.
"In investing, you only make money when you're different from the consensus," said Milton Ezrati, a partner, senior economist and market strategist for Lord, Abbett & Co. LLC Jersey City, N.J. "You get a notion of where the consensus is, what's built into the market already. We can tell if there's a money-making opportunity based on whether our notion is different from the market."
Mr. Ezrati is not alone in using predictive markets for guidance. "I've talked at conferences (for investors). People from large hedge funds will sit there nodding their heads. They already know about these markets," said Justin Wolfers, assistant professor of business and public policy at the Wharton School of the University of Pennsylvania, Philadelphia, and a faculty research fellow for the National Bureau of Economic Research.
Mr. Wolfers studies the predictive markets and their uses. Typically, investors use the markets either as a forecasting tool to measure political or geopolitical risk, or simply to see what the public thinks will happen, he said.
If the public is wrong in its assumptions, it can have a big effect on the stock market, Mr. Ezrati said. "We look at them to see when an issue is really getting the focus of the marketplace," he said. "It can put what's going on in the next few days (after a big event) into perspective."
Fears and Assumptions
The ISI Group Inc., a Wall Street research firm, uses predictive markets to see what fears or assumptions have already been priced in the market. For instance, in 2004, company officials made a list of stocks they thought would do well if President Bush were elected and another list of stocks that would perform well if John Kerry were elected.
In October 2004, they plotted the performance of those two lists based on how the probability of a Bush or Kerry victory changed on Intrade. "That told us what was already priced in and what was not. Maybe it was too late to get into some of those stocks," said Tom Gallagher, a political economist for ISI Group.
Economists and investors are interested in the prediction markets because they are more accurate and up-to-date than opinion polls, prediction markets advocates said. "In an opinion poll, people may say who they'd like to win, or they may say the first person who comes to their mind, if they've just sat down for dinner," Intrade's Mr. Delaney said. "When you sit down in front of Intrade and you have $100 or $1,000 in your account, who you would like to win is a secondary issue for you. Who you think will win and generate profit for you is more important."
Prediction markets also correct themselves quickly, so investors know the information is up to date, explained Koleman Strumpf, Koch professor at the University of Kansas School of Business, Lawrence, who also studies the prediction markets.
In mid-October 2004, an unknown person tried to manipulate one prediction market by buying $21,000 worth of contracts that would pay out if Mr. Kerry won the election, he said. This made the probability of President Bush winning re-election briefly dip to 10% from 55%. The market corrected itself to normal levels in just two minutes, Mr. Strumpf said.
"People are watching these markets all the time. When they see something out of whack, they jump on the opportunity, and the market gets corrected," he said.