Politics You Can Bet On
by Dr. Donald R. Chambers
In the midst of all the rancor of politics, lovers of investments and finance, one can find an oasis of sanity and orderliness on election betting markets. These websites facilitate speculation on the outcomes of various elections. For example, people can use these markets to make small bets on which party, if any, will control the US House of Representatives or Senate. There are real betting markets run by not-for-profits for educational purposes such as the Iowa Electronic Markets operated by the University of Iowa, and PredictIt, a project of Victoria University in New Zealand. There are also for-profit websites (such as Betfair.com).
In the not-for-profit market’s participants can bet relatively modest amounts of money without facing the “vig” charged by for-profit gambling establishments. It is these not-for-profit ventures that I find fascinating.
We can learn a lot about financial markets by examining the prices in these election markets. In fact, John Stossel and Maxim Lott use information from Betfair.com to project the likelihoods of various election outcomes at the website: electionbettingodds.com.
I find the literature on PredictIt quite fascinating. That website (www.predictit.org) contains some starting questions including: “do you think you have the knowledge to beat the wisdom of the crowd?” That little sentence says a lot that applies to investing in financial markets: do you invest in the expectation that you will receive superior returns because you think that you are wiser than other market participants? I believe that the primary reason that people invest should be to earn a competitive return for providing capital and bearing risk – not to test their acumen against the best financiers in the world.
The PredictIt website points out that prices adjust to reflect probabilities of success: “when most people disagree with you…the price is low.” This is the trap that many investors fall into: they see something that they think is underpriced and they buy. But common sense tells us that most of the experts think we are wrong – and we likely are.
The website provides an apt warning: “Keep in mind that…the consequences of being wrong can be painful.” When it comes to investing, I recommend sticking with an appropriate level of total risk and utilizing markets that offer positive expected returns.