Introduction to Prediction Markets

An Introduction to Prediction Markets (a.k.a. Idea Futures, Decision Markets, Information Markets, and Event Markets) alex kirtland / UsableMarkets 25 Mar 2007

Simple Definition of Prediction Markets
A place where information is aggregated via market (or other) mechanisms for the primary purpose of forecasting events, or the probability that an event will occur

outcome / contract outcome / contract outcome / contract outcome / contract outcome / contract All Others The “who will win the 2008 presidential election” market the market (the event)

Contract Hillary: Hillary Clinton WILL BE our next president $0.00 $1.00 Price 0% 100% Prediction $0.26 26% Hillary Clinton has a 26% chance, at this point in time, of being our next president.

All Others The “who will win the 2008 presidential election” market the market $0.26 $0.20 $0.18 $0.12 $0.24 26% 20% 18% 12% 24% = 100%

Basic Elements of a Prediction Market
The Market - Markets are generally created around a specific topic or event, and contain the contracts which are traded. Examples : The “Who will win the 2008 Presidential Election” Market
The Contract – A specific prediction that the trader can buy or sell Examples : Hillary Clinton Binary contract pays out all (e.g. $1.00) or nothing (e.g. $0.00) Linear contract pays out based on final value
Trading Platform – The way that someone interacts with the market Double Auction / Book Order System Automated Market Maker

Basic Elements of a Prediction Market, cont.
Traders – the people who come to a market and participate by buying and selling Marginal traders – knowledgeable traders Noise traders – traders who are not knowledgeable, or have some motivation for trading other than what they think the true price should be.
Liquidity – the number of trades
Currency –real money or fake money.

Simple Definition of Prediction Markets
A place where information is aggregated via market (or other) mechanisms for the primary purpose of forecasting events, or the probability that an event will occur
Why?
Wisdom of the Crowds – “Under the right conditions groups can be remarkably intelligent and possibly smarter than the smartest person.” James Surowiecki
Markets provide incentives for information discovery and truthful revelation of beliefs
Efficient Market Hypothesis – all available information incorporated into the price

How are prediction markets different than polls?

Who uses these things? ?

and others ... .

Gamers Gamblers Sophisticates Employees Your “Average Joe”

Knows how to trade Doesn’t

Most of us Knows how to trade Doesn’t

Where are we now?
No perfect site, but lots of experimentation
Industry
Corporate
A growth industry ...?

Q&A
Questions I haven’t answered yet ...

Special Thanks To ...
Emile Servan-Schreiber (newsFutures)
Ed Lenox (TradeSports)
Robert Wilburn (RimDex)
Adam Siegel (InklingMarkets)
Jed Christiansen (Mercury Research & Consulting)
Bo Cowgill (Google)
David Pennock (Yahoo)
Dave Perry (Consensus Point)
Midas Oracle / Chris Masse (Blog)

Thank You!

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Introduction to Prediction Markets

by Alex Kirtland

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