The proper way to predict Obamas electoral vote count

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I&#8217-m puzzled by the way Intrade projects the electoral vote count on its home page. Two methods are proposed: (a) add up the votes of all the states that are &#8220-leaning&#8221- (&gt-50%) for a candidate, or (b) compute a price-weighted average. The latter is obviously meaningless because electoral votes are winner-take-all in pretty much every state.

But what about the &#8220-leaning&#8221- method? Well, it only makes sense if you believe that market prices do not represent probabilities. In fact, the &#8220-leaning&#8221- method treats the 15 electoral votes from a swing state like North Carolina (65% chance to go blue) the same way it treats the 15 votes from a true-blue state like New Jersey (95% chance to go blue), tossing them both equally in the Obama column.

Now, Intrade has been known to want it both ways: interpreting its prices as probabilities most of the time, but then also claiming that it correctly predicted all 50 states in 2004 because all the contracts priced over 50% eventually expired at 100%. This claim conveniently ignores the fact that if prices are probabilities, then at least some of the states priced &#8220-red&#8221- or &#8220-blue&#8221- over 50% should in fact have gone the other way on election day.

It may very well be that, given the 2004 data, the prices of election markets (on Intrade and elsewhere) should not be interpreted as probabilities. Perhaps our academic friends can come up with another meaningful way of looking at those prices. But in the meantime, assuming the price/probability correlation holds, the proper way to project the electoral vote count from the market prices is to run monte-carlo simulations based on individual state prices.

Here&#8217-s an example using this morning&#8217-s prices on NewsFutures. The histogram shows the results of 1 million simulated elections where each state goes red or blue according to its market-derived probability of doing so. Note how the &#8220-most likely&#8221- outcome, 364 votes for Obama – which is the number the &#8220-leaning&#8221- method would report – is at the same time very unlikely with just 5% chance of happening.