Posted by: Paul Hewitt | November 6, 2009

The Future of Prediction Markets – Part II

As a followup to my previous post, this one covers Public prediction markets.  Up front, I have to admit that my interest in public prediction markets is minimal, mainly because I see very little potential for these types of markets to improve decision-making (public or private).  If they are unable to do this, what good are they?  I started writing this post in May, just after I completed my post on the future of enterprise prediction markets.  Instead of completing this post, I published posts on noteworthy failures of public prediction markets and about market calibration.

Recently, Chris Masse, on his Midas Oracle site, documented the very public failures of prediction markets to forecast the IOC’s eventual decision to hold the 2016 Olympics in Rio and to forecast the winner of the Nobel prize in Economics (or any of the other Nobel prizes, for that matter).  I made several comments on Midas Oracle about these failed markets, and the process has renewed my interest (ever so slightly) in public prediction markets.  Here is the result.

Is there a future for Public Prediction Markets?

Bet on it.  In fact, you may have to.  Exchanges, such as Betfair and InTrade, may be the only sustainable, profitable applications of prediction markets that are available to the public.  Let’s face it, people love to bet on uncertain outcomes.  Even when the odds are against them, people will try to beat the house.  In casinos, the odds are always against the bettor, yet there is no shortage of gamblers and the casinos become glitzier each year.  It’s no mystery where the money is coming from.

Internet-based prediction markets offer the public the convenience of betting at home.  They have the potential to greatly expand the variety and types of things on which wagers may be placed, from political races to trivial events, such as who might win the latest “star search” or who is the best dancer”.   By adding to the variety of betting options, it expands the potential market for bettors.

Take away the real money component, and these prediction markets become nothing more than trivial pursuits.  Hubdub is a good example of a play money marketplace.  While it appears to be well-run, its use for anything other than “entertainment” is questionable.  Eventually, public prediction markets like these will fade away as newer fads invade the consciousness of the play money, esteem-seeking, public bettors.

There is some potential for real (serious) money prediction markets that might provide investors with a hedging mechanism against future events for which there may not be any form of insurance.  For example, a company could hedge against the risk of a particular piece of legislation becoming law (and having adverse effects on the company).

While there is a glimmer of hope that the U.S. anti-gambling laws may be relaxed in the future to allow real money prediction markets, the amounts that may be wagered are likely to be too small to attract any investors who wish to hedge against an uncertain event.  The betting limits will, however, provide a sufficient opening to allow betting exchanges to reach a vast new market in predictions.

Is there any real value in Public Prediction Markets?

Since public prediction markets operate in the same manner as enterprise markets, we can learn more about how these markets work and what makes them work well, by analysing the much more prevalent public prediction markets.  We can learn which types of markets tend to work well and which do not.  This may be useful in identifying appropriate uses for Enterprise Prediction Markets.  We could test public prediction markets to determine their consistency (or lack thereof).  We could make incremental changes to the markets to assess the effects on accuracy, consistency and the potential length of forecasting ability.

We could learn much about the role of information completeness by monitoring the information sets of market participants and comparing markets with similar participants but having differing information sets.  This may lead to insights about using prediction markets to replace some of the costly components of enterprise forecasting processes.  For example, if a public prediction market is able to more accurately (and consistently) forecast key components of an enterprise’s annual budget than the internal corporate methods, it may be possible to improve the efficiency of the planning process.  There may be additional benefits from engaging the enterprise’s customer base in the decision-making process, too. 

Apart from the knowledge gained from operating public prediction markets, one is hard pressed to find any significant benefit of these markets.  Do they help allocate resources to their best uses?  This may be a possible benefit, if the results of certain prediction markets are used to help shape public policy.  But, prediction markets are unproven in their abilities to consistently and accurately forecast or predict future outcomes and events.  Until they overcome these substantial limitations, their use for anything other than trivial pursuits will be rare.

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Responses

  1. […] The prediction market links that Robin Hanson does not want you to read Written by Chris F. Masse on December 1, 2009 — Leave a Comment – The Future of Prediction Markets […]


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