Experimenting with different market types
May 10th, 2007If you're new here, you may want to get Mercury's Blog by Email or subscribe to my RSS feed. Thanks for visiting!
Writing effective contracts can be very difficult. Chris Masse has blogged about the InTrade/TradeSports problems closing out the markets regarding North Korea launching missiles, as well as some issues regarding BetFair and control of the US Senate after the 2006 elections, all of which occurred because of poorly designed contract settlements.
I’ve created four different markets on Inkling to test a different type of contract and settlement criteria. What many people are interested in for each Congress are:
- Which party will control the Senate and House of Representatives?
- How many seats will each party have in the Senate and House of Representatives?
More people are generally interested in the “control” question than the “number of seats” question, probably because it takes much more knowledge and research to effectively trade on the number of seats each party will have. Unfortunately, this can cause problems depending on how the contracts were written.
How do you define control of the Senate or House of Representatives? Do you define it by a majority of seats? Or do you define it by a plurality of seats? The results may be dramatically affected in a close election when third party candidates are involved. After the 2006 elections, who would you say controlled the US Senate? There are currently 49 Democrats and 49 Republicans; with the Vice-President, it could be argued that the Republicans controlled the Senate. Unfortunately for Republicans, the two Independents caucus with the Democrats, so in reality the Democrats control the Senate.
What I have done in the Inkling markets (the House market, and the Senate market) is to base the settlement of the markets off of which party elects a key leader of each chamber. The statement I used for the Senate market is here:
[Party] will control a majority of the seats in the Senate after the 2008 election. If a third party (or independents) prevents either the Democrats or Republicans from an outright majority of seats, this market will settle based on the party membership of the President Pro Tempore.
This covers both scenarios: the much easier scenario where a party has a clear majority of seats thus winning control, and the scenario where a coalition results. Given the nature of the two parties in Washington today and the election procedures of the US Senate, the President Pro Tempore will certainly be a member of either the Democratic or Republican party. I used the same type of settlement criteria in the House of Representatives market, basing it on the party membership of the Speaker of the House. I believe this is an effective way to determine which party will really control each chamber, since it goes beyond the mechanics of getting control (number of seats and such) and speaks to the party that actually has the power in each chamber (who has the authority).
The other type of market (how many seats will each party have) is quite a bit simpler. In the US Senate, with 100 seats, I created markets for the Democrats, Republicans, and Third Party candidates. In the US House of Representatives, I decided to use a market based on percentage of seats instead of the exact number of seats. This is because I wanted to use the Inkling market which forced all of the options to sum to 100%. Unfortunately, this scaled claim may be a bit confusing to traders, but I tried to explain it with this statement:
[Party] will control this percentage of seats after the 2008 elections. Each percentage point corresponds to 4.35 seats. (Alternately, each seat corresponds to 0.23 percentage points.)
While in a perfect world I could have created a market that automatically summed to 435 instead of 100, this still works to elicit the information I’m interested in for the 2008 elections.
Elections are like many business problems; writing contracts that are based on what your organisation really wants to know can be difficult. I hope that this post provokes some different ways of looking at potential prediction markets in your company. Please comment here or contact me with any questions.
Cross-posted at Midas Oracle.
