Intrade 2009 Recession Prediction Contract

Since I have not seen it mentioned anywhere else, I thought I should point out that Intade.com, the prediction market site, now has a contract covering whether or not the United States will go into a recession at any time during 2009. While the contract currently suggests a greater than 50% probability that the U.S. will slip into a recession in 2009, I find it interesting that the contract price has been slipping over the past 2-3 weeks, suggesting that the likelihood of a recession next year is declining.

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Intrade Prediction Markets as a Sentiment Indicator

Intrade.com is a fascinating place to park your brain from time to time. At this prediction market site, users can buy and sell binary options contracts that allow them to place bets on whether a future event will happen. Intrade has a broad range of contracts that cover everything from whether Osama Bin Laden will be captured by a particular month, which country will host the 2016 Olympics, what the year’s snowfall will be in New York City, and a wide variety of bets about the US election.

Prediction markets have received considerable press and academic attention for their purported ability to provide a better predictive view of the future than that of individual experts. Evaluating the arguments on both sides of this issue is beyond today’s scope, but those who are interested in reading about these claims may wish to start with Prediction Markets: Does Money Matter? by Servan-Schreiber, Wolfers, Pennock and Galebach and move on to prediction markets as a proxy for probabilities in Interpreting Prediction Market Prices as Probabilities by Wolfers and Zitzewitz. For an excellent broad introduction to prediction markets, I recommend Prediction Markets, also by Wolfers and Zitzewitz.

Unfortunately, the volume of trading activity for the financial and economic prediction markets contracts are not as popular as those for politics and entertainment. I do think, however, that there is considerable potential value not only in establishing probabilities for future events, but also gauging investor sentiment. At the moment, the most heavily traded financial contract at Intrade is whether the US will go into a recession in 2008. I have included a chart of that contract, which goes back to August 2007, in the graphic below, which compares estimates of the probability of a recession with the SPX during the same period. While there is a very high negative correlation here (i.e., we have yet another contrarian sentiment indicator working), I find it particularly interesting that the expectations for a 2008 recession peaked just as the SPX was making its January bottom.

If only there were a little more volume in the financial contracts, I suspect there would be quite a few more gems to pluck from the prediction markets. Until then, they are still a great place to get a sense of what the odds are that Barack Obama wins the Democratic nomination or Barry Bonds will be found guilty of one or more of the perjury and obstruction charges he is facing.

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Chart of the Week: Intrade and Control of the House of Representatives

With everyone else thinking about double dip recessions, European bank stress tests and the like, my thoughts have wandered to the next U.S. elections, which are barely three months away.

While there are a number of key questions that will be strongly influenced by the composition of Congress following the November elections, the fundamental question is which party will hold the majority of seats in the House of Representatives when voters have a chance to voice their opinions.

For those who are interested in a seat-by-seat, poll-by-poll perspective on the election, RealClearPolitics.com is a great place to start. Those like me who are more interested in assigning probabilities to the overall outcome may prefer to keep an eye on Intrade.com, the prediction market site.

One of the more active contracts at Intrade is based on whether the Republicans will wrest control of the House from the Democrats in November. The chart of the week below is structured to pay off on the basis of that outcome. The chart shows that the collective wisdom of the crowds put the odds (contract price roughly matches the odds of an event happening, just as the delta of an option roughly matches the probability of finishing in the money at expiration) of a Republican victory in the area of 15% at the time President Obama was sworn in back in January 2009. The odds moved over 50% for good about a month ago and currently stand at 55.1%.

With many political and economic issues of great importance facing the U.S. in the next year or two, the composition of the U.S. House of Representatives will have a great deal to say not just about fiscal policy, but about a broad range of influences across the financial landscape.

Of course, if you prefer to speculate on whether California will legalize marijuana, Rutgers will join Big 10 Conference or Rod Blagojevich will plead guilty or be found guilty of corruption, then Intrade is a good spot to do that too…

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Chart of the Week: Money Market Mutual Funds

When the first version of this week’s chart of the week first appeared on the blog in Chart of the Week: Change of Trend in Cash Holdings? in January 2009, it generated a surprising amount of controversy. A follow-up post in March 2009, Cash on the Sidelines Headed Back to Stocks? also seemed to polarize some of the readership here.

In retrospect, this data from the Investment Company Institute (ICI) as well as similar data from AMG Data Services did an excellent job of keeping track of the flow of funds in and out of cash and therefore have been excellent proxies for a large part of the net change in demand for equities.

In the chart below, note that money market mutual fund assets began declining sharply in the second week in March 2009 (after topping in January 2009,) just as stocks were bottoming and starting to catch a bid. In the twenty months since the bottom in stocks, net changes to money market mutual funds have been a solid coincident and sometimes leading indicator of demand for stocks.

I am resurrecting this chart again for several reasons, not the least of which is that the decline in money market mutual funds has lessened considerably since the end of April, when stocks hit their 2010 highs. Additionally, last week’s increase of $25 billion in money market mutual funds was the largest since July 2009 and the second largest since January 2009. While this may not mean anything, I like to be provocative with these kinds of charts. Readers should at least be open to the possibility that most of the cash on the sidelines that will ultimately be committed to stocks in a bull market has already been committed. Perhaps it will take a significant downturn in bond prices for the next large pool of money to be moved into equities.

Either way, I still think this chart of money market mutual funds bears further watching.

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