Aaron Schiff posts the above graph and writes:
Now the question is, was Obama an inefficient market bubble, or an efficient market responding to the best information that was available at the time, plus a sudden unexpected event?
Meanwhile, Paul Krugman claims that conventional wisdom is as wise as prediction markets:
But to be more specific, the prediction markets — which you see, again and again, touted as having some mystical power to aggregate information, know no more than the conventional wisdom.
Krugman also posts the famous Truman picture where he is holding the newspaper predicting a Dewey victory (for which prediction markets, of course, were not available).
So have the prediction markets got things wrong? The short answer is no.
Participants in markets make decisions based on all relevant information known at the time. The results of the New Hampshire primary represent new information to these market participants. Keep in mind that the markets were not designed to predict the outcome of any individual primary (InTrade has separate contracts for that). A third place finish in Iowa was extremely disappointing for the Clinton campaign (no matter what they said) and many felt like she needed to finish first in New Hampshire to have a shot at the nomination, which markets and pundits alike did not think was the case. The nomination is tight and the markets are likely to reflect this with increased volatility. Similarly, there are, at times, inconsistencies in the contracts, which creates an opportunity for profit opportunities. These opportunities, of course, are not always acted upon, especially given the small volume of some of the contracts. However, this is not a sufficient reason to condemn the contracts as being as ignorant as “conventional wisdom.”
It is perhaps most important to note the overall trend. If you take a longer view of the market rather than what has happened in the past week, you will notice that Obama has significantly closed some of the gap between himself and Mrs. Clinton.
UPDATE: Justin Wolfers has chimed in on this as well:
While Sen. Clinton’s unexpected victory has yielded red faces among the punditocracy, this also provides a useful opportunity for emphasizing just what a prediction market forecast says. That the price of a contract paying $1 if Sen. Clinton won in New Hampshire was selling for seven cents doesn’t suggest that she was a sure loser. Rather, these prices suggest a probabilistic statement that the ultimate outcome was about a 7% chance. And as any horseplayer can tell you, sometimes the long shots do win.
In the real world, people are not equal. Successful people come out ahead of others, fundamentally, because they tend to (but not always) be correct in their decision-making. Any “luck” is better called “happenstance,” because as the saying goes, “Chance favors the prepared mind.” People tend to be *more* lucky when they’re more aware of their surroundings good opportunities. “The right place at the right time” happens more often when one is smart enough to position himself at the right place, so he can wait for the right time.
Well, some people believed that Hillary, despite wha everyone else said, would win New Hampshire. And if they happened to trade Intrade contracts to that effect, they came out ahead of others.
And *that* is the real reason for Krugman’s criticism of prediction markets. His error stems from his agenda, one that believes everyone should be equal — forcibly made so, if necessary — and so he can’t stand that certain people could be correct about an excellent profit opportunity.
Disclaimer: I used to write for Intrade, which doesn’t matter at all to what I wrote here. My real disclaimer is that I myself didn’t expect Hillary to win, and had I traded on Intrade, I’d have bought and sold accordingly.
Pingback: Prediction Market Industry Association = useless, so far | Midas Oracle .ORG
Pingback: Prediction Markets 101 | Midas Oracle .ORG