CFTC Takes Jurisdiction Over Prediction Markets.

First, a hearty congratulations to Robert Swagger and Trend Exchange. Along with the Cantor Exchange folks, they have run quite a gauntlet, and although there remains a tremendous obstacle in the form of the Lincoln amendment, I consider these exchanges to have already accomplished a great deal.

In its approval of Trend Exchange and preceding statements, the CFTC has confirmed a very broad definition of &#8220-commodity&#8221- that includes &#8220-event&#8221- contracts. The old debate about whether or not the CFTC has jurisdiction over &#8220-prediction markets&#8221- has been decided for now. Yet, there is considerable dissent within the Commission. Commissioners Chilton and Sommers have expressed disapproval that the Commission did not first address the general questions raised in the 2008 Concept Release. To this point, given the very broad definition of &#8220-commodity,&#8221- it now seems that Intrade and online sports exchanges could be in violation of the Commodity Exchange Act. The Commission does not consider an &#8220-economic purpose test&#8221- in the contract review process, and there is no statutory basis for such a test being used in jurisdictional determinations. Perhaps as a matter of practice, in accordance with the spirit of the Act, the Commission is considering such a test for jurisdicitional questions as I suggested in my Concept Release comments (surprisingly cited by the MPAA group). Otherwise, it seems inconsistent that exchange-traded sports bets, for example, would not also be considered commodities and be subject to the Act.

As a whole, the Commission has apparently decided to defer such questions and focus on specific techniques for ensuring that the new contracts fulfill the Act from the standpoints of manipulation and fair trading. To these ends, the CFTC will require, &#8220-entities and individuals who control a film’s marketing budget, release date or opening screen number to provide the Exchange with information regarding such decisions whenever that entity or individual holds a position of 1,000 or more contracts.&#8221- Additionally, the Commission will require a &#8220-firewall&#8221- within studios and distributors, and has restricted certain employees from trading altogether. These are procedures that I had recommended for event contracts, but they are relatively novel mechanisms in the commodities world. Whether or not the CFTC would agree to support special trading restrictions was the pivotal question in whether the contracts would be approved. I applaud the principled, politically independent thinking of the Commission and the can-do attitude of the Market Oversight Division &#8212- though some headline risk has been assumed here if something should eventually fall through the cracks.

InTrade prediction markets got health care wrong… – dixit Daniel Gross of Slate, a site I will no longer read.

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Slate&#8217-s Daniel Gross:

Don&#8217-t Short Obama

Why political futures markets got the health care bill so wrong.

By Daniel Gross

Posted Monday, March 22, 2010, at 6:05 PM ET

It would be very difficult to tote up all the times pundits pronounced the health care bill dead, and the prospects for the Obama administration dire—especially after the election of Scott Brown in January. Intrade, the political futures market, which functions as a conventional-wisdom-processing machine, also got health care wrong. Check out this chart for the contract on health care reform being passed by June 2010. The contract is worth 100 if it is passed, zero if it is not. After Brown&#8217-s election, it slumped to as low as 20. As recently as March 17, it was below 40. Even as late as Friday, it was trading in the mid-80s. These trading data show that &#8220-investors&#8221- in this market were skeptical of the Obama administration&#8217-s ability to pass significant health care legislation, right up until the end.

Is there a larger lesson here? (Aside from the obvious one, which is political futures markets usually aren&#8217-t very good at predicting what actually will happen in the future?) I think so. And it&#8217-s this: Don&#8217-t short Obama. In fact, that&#8217-s been the lesson of Obama&#8217-s entire career so far.

[Stock market stuff inserted here.]

On some level, it&#8217-s tough to blame the Intrade crowd for getting Obama and health care wrong. The type of people who trade there, folks who think they&#8217-re quite savvy about money, the market, and politics, are the same conventional wisdom hawkers who were so monumentally wrong before the financial crisis. If you&#8217-ve tuned into CNBC or Fox Business Channel, or read the Wall Street Journal since January 2009, you would have been subject to a constant stream of money managers, pundits, talking heads, and policy wonks declaring that the U.S. economy is becoming a socialist hellhole that is hostile to business and investors. (If there were a way to short Fox Business Channel, I&#8217-d do it in a hurry.)

The conventional wisdom market has not yet internalized the message that it&#8217-s dangerous to your financial and professional health to short Obama. Judging by the debate in the House last night, by the talk on cable news shows this morning (full of talk about how this is going to kill Democrats in November), and by the chatter on the business networks this morning (full of talk about how the tax increases in the health care bill will destroy the markets and the economy), the shorts haven&#8217-t learned anything.

I agree with Dan Gross that prediction markets are a &#8220-conventional-wisdom-processing machine&#8221-. Prediction markets incorporate expectations (informed by facts and expertise) just like the mass media do.

Prediction markets can&#8217-t look into the far away future.

In the ObamaCare case, prediction markets have just been summarizing objectively, dynamically and quantitatively (day in, day out) what the political media were reporting about the health care reform, and about the prospect of its passing in Congress and of its signing by the President.

It would be easy for a scientist to verify that &#8212-by comparing archived media articles with the historical InTrade prices.

ADDENDUM: To answer Hutch&#8217-s question, the only trouble I saw in the history of this contract is the brief manipulation that happened on March 16, 2010.

UPDATE: Funny video:

Does InTrade participate on its 2012 Republication Nomination prediction markets?

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A mysterious InTrade forum user (could be a trader or could be John Delaney) has posted this:


Joined: 24/01/2010 15:58:35

Messages: 1

Original thread at

So the actor has to a) not care about the transaction fee and b) have limitless margin. Intrade fits the bill for both of these. a) they don’t care about transaction fees because they are ultimately collecting them and b) if you only short when the bids are summed to over 100, it’s essentially an arb.

Until mid-April 2010, Intrade will refund market taking and expiry fees for arb trades &#8211- details here.

Some products with a single guaranteed outcome are linked for cross-margining purposes. If you collect at least $10 by shorting all three contracts for the 2012 presidential election, then you will not have any funds frozen. The contract rules will tell you if a product is not linked (e.g. 2012 republican presidential nominees).

Intrade provides an API for developing trading applications. I am running a bot to take out market imbalances and as far as I&#8217-m aware Intrade is not competing with me.


What was Max Keiser doing at InTrade HQ two years ago? -> due diligence…!??…

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Max Keiser:

[…] I asked John Delaney and his tech team when I was doing my due diligence on InTrade a couple of years ago in Dublin – about the firm’s own participation in making markets – and the potential to ‘manage’ prices in ways that were outside of the normal price discovery mechanism. I came away from that meeting not convinced at all that adequate checks and balances were in place to protect against manipulation. […]

Details, details.

I am calling all my Deep Throats. Contact me. Tell me more.

Next: Does InTrade participate on its own prediction markets?

Does InTrade participate on its own prediction markets?

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One (anonymous) InTrade trader:

I am utterly convinced Intrade participates in its own markets. Every few hours some kind of API hits the bids on the GOP 2012 nomination contract when the bids sum to more 100. It will even short bids at 0.1, which is a money losing proposition when you figure the transaction cost alone of 0.3 (since the price is below 5). Also, the amount of margin required to short all of these bids is in the millions of dollars.

So the actor has to a) not care about the transaction fee and b) have limitless margin. Intrade fits the bill for both of these. a) they don&#8217-t care about transaction fees because they are ultimately collecting them and b) if you only short when the bids are summed to over 100, it&#8217-s essentially an arb.

The trader also tells me that, on the InTrade forums where those questions were asked many times, InTrade never denied that they trade on their own prediction markets.

Previously: What was Max Keiser doing at InTrade HQ two years ago? –&gt- “due diligence”…!??…

Next: Does InTrade participate on its 2012 Republication Nomination prediction markets?


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See Jason Ruspini&#8217-s comment. UPDATE: Carlos Graterol. Joe Weisenthal. Gawker. Max Keiser.

Prediction Market Chart


More info on health care reform on Memeorandum and Politico.

Max Keiser weighs in on potential insider trading and hypothetical manipulation in the ObamaCare prediction market at InTrade.

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Max says that the political prediction markets are &#8220-routinely manipulated&#8221- and we often see &#8220-price rigging&#8221-&#8230-

9:57 into:

Previously: What has been the best InTrade prediction market ever? Has the ObamaCare prediction market at InTrade been “ahead of the commentary”?

Feedback trading in prediction markets

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Robin Hanson is schooled about prediction market trading.

Our guest author to our Master Of All Universes:

Feedback trading just means the kind of momentum trading that is pervasive in traditional assets, again, less so in prediction markets. In the biastest experiment, traders were given formal &#8220-clues&#8221- about the settlement, but for many market participants, the best &#8220-clue&#8221- (even rationally, if lazy) is recent price action. Even if feedback trading was possible within the experiment, the outcome (manipulation attempts were corrected) suggests that it wasn&#8217-t prevalent.

In this experiment, traders were given equal endowments of shares/currency&#8230- i.e. initially had equal account sizes. Yes, there were an equal number of manipulators and non-manipulators, but they could not coordinate. Even if they were implicitly coordinating, this is not the same as a single large trader influencing the market. Yes, in the theory paper trading sizes were variable, but according to the same parameter for each trader. Maybe if there were a large supply of potential traders able to frictionlessly join the manipulated market, a manipulator&#8217-s relatively deep pockets wouldn&#8217-t matter.

The Robin Hanson manipulation papers make unrealistic assumptions, but its not like prediction markets are a bad idea…!!…

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In terms of unrealistic assumptions in Robin Hanson&#8217-s series of papers on manipulation, the major ones have been out there since at least 2004.

Despite some limited evidence, the insistence on traders needing to know the direction of manipulation isn&#8217-t too compelling since the direction will be manifest insofar as the price is &#8220-wrong.&#8221- &#8220-Noise trader&#8221- is a politically loaded and misleading term. Misleading because it suggests that the mean effect will be zero, when in reality &#8220-noise trading&#8221- usually takes the form of feedback trading. Lack of feedback trading is a significant assumption in the Hanson manipulation papers. Fortunately, prediction markets have objective settlements at specified times, unlike traditional assets where the meaning of prices is open to interpretation, making them more prone to feedback trading and irrational booms and busts.

With prediction markets, conditions for manipulation are more favorable when the settlement is far off in time, and when there are subjective inputs to the settlement, e.g. in politics. A distant settlement simultaneously makes it less clear what the real price should be, and delays manipulator losses because there is less incentive to correct price. At the limit, a manipulator could introduce a price distortion when a contract is launched, only to reverse position for small liquidity-related loss immediately before settlement, thereby destroying the markets &#8220-integral&#8221- of error over time.

Another big assumption, also identified by Paul Hewitt, is that traders have equal account sizes. But maybe this isn&#8217-t a huge problem if settlement is forthcoming, and maybe the issue could be mitigated with additional exchange disclosures, such as the standard deviation of position sizes in a given market. While this could discourage liquidity as large traders would become paranoid about their positions, it is essentially a &#8220-soft&#8221- position limit, and traders would be forewarned of one-sided markets (which could of course be the result of someone well-informed, but I &#8211- the google-anonymous* writer &#8211- would bet that more concentration comes with more error on average&#8230- this can be tested by someone with the data, of course maintaining trader anonymity)

Even accounting for long-term settlement, feedback trading, semi-subjective settlements, and account size imbalances, it seems one would have to abide to an overly rigid tenet of &#8220-do no harm&#8221- to hold that prediction markets are, on net, a bad idea. (Do no harm is of course abhorrent to libertarians, and even doctors don&#8217-t actually follow such a rule.) Moreover, some pathologies like political self-fulfilling prophecy will only happen if prediction markets have already demonstrated their value and have become more popular. But even if one believes in their long term success, single pathologies can damage one&#8217-s reputation permanently&#8230- if one plans to die at a reasonable age.

[*Given the political climate, many firms have issued directives to employees to not engage in even the slightest appearance of impropriety, which might include blogging on manipulation.]