The Election-Betting Market Was Smarter Than the Polls. Here’s How it Works

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We wanted to understand how the presidential-election betting market works and how it parallels (or doesn’t) the way financial markets work. So we sat down with Brandi Travis from PredictIt.*

*With special commentary by Wealthsimple’s markets expert and non-bettor Peter Restrepo

So, my first question is: What’s a political prediction market, and how is it different from betting?

Yeah, so, we're not a betting site. We are a real-money political-prediction market. It operates similar to a stock market, where we basically have binary options on political events.

So I can invest money in a prediction of what will happen in politics?

Correct. And every share is a “yes” or “no” answer to a question that we ask.

How much does it cost to buy a share?

It can change by the second, depending on demand. The traders set the price.

So if the question is whether the sun will rise tomorrow, everybody wants the “yes” shares and the cost shoots up.

Correct. But if you think the answer is “yes,” you could still decide that the price of “no” is undervalued, and you may want to scoop those shares up just in case.

I think I know the answer to this question, but did you see an increase in trading volume over the past week or so?

We had unprecedented numbers on election night. We've never had that many people on our site. And it's not just traders coming to the site; it's also reporters looking to see what the numbers are and campaign operatives and just everyday people coming to see what's happening, because prediction markets tend to be significantly more accurate in polling. So it's another data point for people as they're looking for information about what's going to happen.

We’re talking on Thursday afternoon. What’s the latest price for a “yes” share that Joe Biden will win the presidency?

I'm not in front of my computer, but it's in the 80s—about 85 cents.

Does that mean investors think there's an 85% chance that he'll win?

Yep.

How much did that share cost when Biden first got the nomination this past summer?

He overtook Trump in about May, so it went over 50 cents. And by midsummer, it was in the 60-cent range for Biden, where it stayed from then on.

How does that compare to what the professionals were saying?

It was a lot more stable, for one thing. For another, the polls were all saying it would be a blowout in the Electoral College, and our numbers were not showing that. Our traders didn’t believe there was any chance that Texas would go blue—or Florida or North Carolina or Georgia. Of course, we still don't know the outcome in Georgia, but so far, our accuracy rate is 100%. There's a chance that our electoral count will be exactly right.

Wow. Did the market remain stable on Tuesday night, when it looked like Trump was winning?

Well, once election results started coming in, we got bombarded with people trying to make trades as quickly as possible. So we saw massive fluctuations on election night, but that's not a huge indication of what the market actually thinks—it's more of someone just dumping a bunch of shares or buying a bunch of shares. I look at the period four hours before the election results came in or earlier that morning or even a week before—and our electoral count was stable for weeks. Ninety days before the election, we did see a switch in North Carolina. We had it blue, and then around the time of Cunningham, it turned to red. So that was a week or two before the election. We also saw a teetering in Florida.*

*Wealthsimple’s Peter Restrepo: This is analogous to what happened in the stock market in March. When lots of new information comes to light—in this case, about a health crisis that would change our economy—or there's lots of uncertainty, investors might dump their shares or come in and buy up huge amounts depending on the situation. Heightened uncertainty means that the "wisdom of the crowds" (which will be discussed below) results in instability—prices can fluctuate as the crowd settles how the information should be interpreted.

How accurate were your traders in the 2016 presidential race?

Our numbers showed a much closer race than any of the polls. We were showing it very, very close. But we still got it wrong. It was funny: Going into 2016, a lot of people were pointing to us, saying that our numbers were ridiculous, there was no way that it was going to be close, it was going to be Hillary blowout—and, of course, that wasn't the case. But at the end of the day, we still got it wrong.*

*Wealthsimple’s Peter Restrepo: Markets aren't perfect, but they're hard to beat!

Can you back up for a second and explain why the shares never cost more than $1

Since it’s a yes-no market, we set the shares on each side of a question to equal $1. If the demand goes up for a “yes,” it goes down for a “no”—but together, they still add up to $1.

And when there’s a definite outcome, the one that’s correct is worth the full dollar and the other is worth nothing?

Correct.

So, theoretically, the best investment would be a share you bought for a penny and sold for a dollar, a return of 10,000%. How many of those shares can one person buy?

There's an $850 limit, but you can bet that much on both sides if you want. So, like, if the question is “Will Biden win?” you can put $850 on “yes” and $850 on “no.”

So the best possible outcome is if you bought 85,000 shares of a single prediction at once cent, and you would get a 10,000% return on each one.

Yes.

Is there any risk then of someone buying a bunch of shares for a particular candidate in order to drive up the price and make it look like that candidate is more likely to win?

That typically resolves itself. You may see a peak for a minute, but the market usually corrects itself. Let's say people buy a lot of Trump shares to skew the market to show that he's going to win. On the other side of that, people are going to buy the “no” shares.

Got it. So people start buying the Biden shares because they're cheaper than they should be. OK, so the theory with any market is that there's wisdom in crowds. A large group of people will have more and better information than a smaller group. But political forecasting is notoriously difficult, even for experts. Why would we expect random people to have more information or make better predictions than professionals who are trained to study these issues?

The wisdom of the crowds is something that's been studied for thousands of years, and in the past 100 years or so it has proven to be very accurate. A group of people can predict anything, down to the weather. Why that is, I'm not really sure. But the collective seems to be better at making these predictions than a few people who are well educated.

One problem you find with the investment market is that a lot of people come in too late and sell too early. They'll buy a stock that's already peaking because they hear buzz or they'll panic-sell when there's a downturn. Do you see that kind of behaviour with political markets?

Oftentimes they behave a little bit differently. On several occasions, we've seen our market showing something different than what all the polls are showing and the pundits are saying. Like the Greek exit—we called that well before it happened. There have been several instances where our numbers looked, from the outside, very, very off—and then it turned out that we were right. Why that is, who knows? Now, you do get traders who are reactive. A news story comes out, and all of a sudden they drop their shares. But that's not the typical behaviour. On the prediction markets, you don't typically see these massive swings. You may see a little nudge here and there if something drastic happens, but for the most part it's a pretty stable market. And I think that's because people aren't super reactive. They're looking at what's going to happen, you know, six months from now and how it will ultimately affect the outcome. Because these traders are incredibly well informed. If you look at the pundits and the media and everything else—you know, the traders are doing their research too. They're very well-read, they're keeping up with events, they're looking for little hints here and there, and they're a well-educated group of people, just demographically. So it's not as if they're completely uneducated when they go into making a trade.*

*Wealthsimple’s Peter Restrepo: That behaviour sounds a lot like how a smart long-term investor approaches things: You do research, come in with a view, block out the noise, and stick with your plan. It’s how we advise our clients to invest. Of course, it's not possible to be passive in this market; everyone is taking a bet and will either win or lose, but it seems they're doing it in a long-term “get rich slow” kind of way.

We'd add a big caveat here: if you're coming into a market like PredictIt with no special insight, you can expect in general to lose money after fees. The stock market is different. If you invest in the broader market and keep fees low, you can expect, over time, a positive return.

Do any of your bettors make a living at this?

Some of them do, yeah. It's a small-dollar market, so you're not going to make a fortune off it, but, yeah, some people do.

How long have there been political-prediction markets like this?

In the US, there's one other political-prediction market. It's called the Iowa Stock Exchange, and it's associated with the University of Iowa. It's very small and just within the university, but they've been around for years. Other than that, it's just us.

Were your results this year similar to what the Iowa Stock Exchange saw, or were there differences between them?

You know, I haven't looked at their markets. We were different from the European markets, like Betfair. They were quite bullish on Trump. But the difference is they don't have limits, so they're not a small-dollar prediction market. You can put millions in these accounts, which makes it easier to skew the numbers. Also, American voters aren't allowed to participate in those, so you're not getting the sentiment of the American voter. You're getting people who live outside of the U.S., and they do get different information. The coverage they're seeing is different than the coverage we're seeing, and they're not in the country, so you do have to take that into consideration.*

*Wealthsimple’s Peter Restrepo: This is true in all markets, really: Who the market participants are, their biases and how much money they put to work will influence prices. Stocks that are popular with retail investors have had outsized returns recently—even if their fundamentals didn’t suggest that performance—thanks to new participants entering the market. Hertz stock is an interesting example here; institutional investors basically believed that it would go bankrupt, but a raft of smaller retail investors pushed the price of the stock up.

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