Political Futures Traders: An Unseen Voting Bloc

Michael Sisk Correspondent
605 words
9 February 2004
Securities Industry News
Copyright (c) 2004 Thomson Media Inc. All Rights Reserved


The presidential primary season is in full swing, a time when pundits will grasp at most anything to predict an outcome: man-on-the street interviews, exit polls, fund-raising success. But one indicator rarely cited by the talking heads is the trading of political futures contracts.


Perhaps it's seen as unseemly to equate the democratic process with the trading of orange juice and pork bellies, or just too wacky. Fresh in people's minds, also, might be the futures exchange proposed last year by John Poindexter at the Defense Advanced Research Projects Agency to trade contracts in geopolitical events, specifically terrorism. Poindexter, of course, resigned in the ensuring furor. Yet the fact remains that political futures contracts can be traded-and they were astonishingly accurate leading up to last Tuesday's hotly contested Democratic primaries.


Of the four states for which political futures contracts could be traded on Intrade.com, the invisible hand of the market was four for four-even correctly predicting the razor-thin victory of General Wesley Clark in Oklahoma.


"There's never been an exchange where you could trade political contracts on an organized exchange," says Intrade CEO John DeLaney. Intrade went live in 2001 and has traded more than $1 billion in contracts since then, on everything from whether Poindexter would resign to when and if Osama Bin Laden would be captured or "neutralized."


Given Intrade's three-year history, trading in political contracts is not exactly new; and the Iowa Electronic Markets, where political contracts can also be traded, predates Intrade by more than a decade. But the Iowa market-run by the University of Iowa College of Business, and where contracts cannot exceed $500-is more an academic exercise than a functioning exchange, as the Dublin-based Intrade claims to be.


Intrade took a step toward becoming a more full-fledged participant in the financial markets with the rollout recently of its own application programming interface (API), which allows trading firms to interface directly with Intrade's back office. So far, two firms use Intrade's API.


By building volume, Intrade may someday play a key role in hedging political risk, according to Justin Wolfers, assistant professor of economics at Stanford Business School, who has written a research paper based on data provided by the exchange.


His conclusion is that Intrade operates as a rational, predictive market of events, bringing more transparency to the murky world of assessing political risk. "It doesn't remove the risk," Wolfers said, "but it makes it more explicit, so you can price it more accurately."


Wolfers says one of the benefits of a market that trades futures contracts in events such as whether Senator John Kerry will become President, is that "you can extract a very small piece of information, and that is tremendously valuable." If a Kerry presidency is seen as less bullish for the oil industry than a second term for Bush, Wolfers says, then an oil company or exec might mitigate that risk by buying futures contracts in a Kerry win.


Right now, regulations would probably bar such a market in the United States. However, as Wolfers says, there is a "continuum from betting to investing," where the legal line is not always easy to draw. Betting on how the weather will affect the orange crop is OK; betting on how the weather will affect a football game is not.