New York Times, Page E9, October 2, 2003 Predict the Future? You Can Bet on It By PETER WAYNER
THE off-again, on-again recall election in California hasn't been easy on politicians and voters in that state. It hasn't been too easy on Gavin Peters, either, even though he lives 2,500 miles away in Toronto. When the news came in mid-September that a panel of judges had delayed the vote, Mr. Peters, a computer programmer, rushed to his PC. He had been betting that Gov. Gray Davis would be gone by November, but now he desperately wanted to close out those bets and make new ones that Mr. Davis would still be around. Mr. Peters succeeded and watched his account grow as the confusion nurtured Mr. Davis's long-term chances. But his bets were still in place a week later when the panel's decision was overturned and the vote was reinstated. "I lost a ton," he said. "I'm down to half of my original money." Fortunately for Mr. Peters, he is not playing for real dollars. He is trading play money on the Foresight Exchange (www .ideosphere.com), one of several Web sites that let people speculate on world events by imitating the futures and options trading pits. Instead of investing in the price of hog bellies or the S.& P. 500, the almost 2,000 members of the Foresight Exchange gamble on such questions as whether a space elevator will be built, whether the European Union will expand, or whether a certain cardinal will be the next pope. Sites like the Foresight Exchange captured the headlines last summer when Congress discovered that a Pentagon office under the direction of Adm. John M. Poindexter was planning a similar system in which anonymous players could bet on the likelihood of events like acts of terrorism. The Defense Advanced Research Projects Agency, which financed the project in the belief that it might help predict the probability of future terrorist attacks, retreated rapidly as congressmen started calling it ghoulish. The Pentagon office, the Information Awareness Office, has since been shut down. But in fact, marketplaces like the Foresight Exchange and the one envisioned by Admiral Poindexter are darlings of economists, who describe their workings with sophisticated terms like "price discovery," "opinion aggregation" or "risk analysis." They argue that the constant betting is an efficient way for distilling the opinions of many people into one number. In the simplest systems, players buy and sell contracts to pay 100 units of fake or real money at some future point - like the end of a game or an election. In Mr. Peters's case, he was buying and selling the right to get 100 points if, "by Nov. 16, the Secretary of State has certified elections results in which a majority of voters elect to remove Gray Davis from office." These marketplaces synthesize a prediction for the future by letting the price fluctuate as everyone chooses how much to pay for the contracts. Someone who spends 50 points to buy a Davis contract is effectively betting with 1-to-1 odds that Governor Davis will be recalled by the voters. Paying 50 points will yield a profit of 50 points if he is voted out. Someone who paid 33 points would be getting 2-to-1 odds and someone who paid 10 points would be getting 9 to 1 odds. Robin Hanson, an assistant professor of economics at George Mason University and an organizer of both the Foresight Exchange and the Pentagon project, said: "What's nice about these institutions is they always come up with a number. When you talk to academics, they might say, 'That's not possible. We don't have the right data. We don't have the right insight.' These markets cough up a number. There may be a lot of error, but at least you get something." Markets like these are most accurate when the players have a stake in the question at hand and the result is determined by a large number of people. The Iowa Electronic Markets, for instance, collect small bets made with real money on the outcome of elections. They report that the prices of futures contracts pegged to the results of elections are often better predictors than most polls. (Data from the Iowa markets, run by the faculty of the University of Iowa's business school, are used to study trading behavior and as a teaching tool to introduce students to real-world markets.) But when the players know little or have little control of the outcome, the results are often not reliable. The Hollywood Stock Exchange, for example, lets people bet play money on the box office success of movies and stars by purchasing futures contracts. One problem is that the guiding rule in Hollywood, at least according to the screenwriter William Goldman, is that "Nobody knows anything." Aggregating this collective intelligence doesn't always pay off. For example, the Hollywood exchange was predicting that "Gigli," one of this summer's greatest flops, would collect almost $35 million at the box office. It ended up with about $6 million. Karl Hallowell, a doctoral student in mathematics at the University of California at Davis, says that defining how the contract ends is an art that often generates deep arguments on the Foresight Exchange. The members try to take complicated policy debates and measure them with some objective number. "There is some evidence that there's global warming, but we're not sure how bad it is,'' he said. "There's one side that's pro-business and then there's the other side that says we should sacrifice." At the Foresight Exchange, he noted, participants can actually bet that the sea level will rise by a certain amount in a given number of years. "This is something that's measurable," he said. Patrick Kobly, a computer programmer in Edmonton, Alberta, and the judge at the Foresight Exchange responsible for determining the winners of the bets in the California recall election, said the bet was defined to hinge on whether or not Gov. Davis was voted out of office by Nov. 16. An Irish company, Tradesports.com, takes a similar approach in offering contracts in political events but settles them with real money, up to several hundred dollars in some cases (being based overseas, it avoids the possibility of running afoul of gambling laws in the United States). The company extended the term of its contracts on the recall vote because they were written to depend on the "winner of the special election." The Iowa Electronic Markets, which also settles such contracts with real money, based their contracts on the results of the election, too. John J. Delaney, chief executive of Tradesports, concedes that there will always be a few ambiguities. "When we list the contract, we try to make the rules as clear as possible," he said. "We assume our members will apply common sense to something." While the ambiguities can be disconcerting for those who expect the marketplaces to deliver pure insight and clear predictions, they can be opportunities for savvy investors. Many members at the Foresight Exchange are excited about a contract that will pay off if Arnold Schwarzenegger becomes president of the United States by 2022. The contract began in 1998 as an April Fool's joke, given that Mr. Schwarzenegger is of foreign birth and thus prohibited by the Constitution from becoming president. But speculators now note that Sen. Orrin Hatch has introduced legislation to amend the Constitution to remove the native-born restriction. Yesterday, the odds on the contract were 19-to-1. http://www.nytimes.com/2003/10/02/technology/circuits/02mark.html?ex=1066100426&ei=1&en=69bcb920535db2b1
