Prediction Markets: Are they a good bet?
whaT are PredIcTIon MarkeTs? prediction market and prices increase or decrease
Prediction Markets, sometimes referred to as according to the level of activity – just like a stock
Information Markets, are speculative markets in exchange. The higher the price of an asset, the
which traders collectively predict events. A number greater the probability of that outcome. The price
of possible outcomes are created (the assets) and essentially reflects a collective view which, at any
each outcome is allocated a cash value. Participants point in time, is the best forecast available.
(traders) can then buy and sell these assets on the
Many prediction markets have been established to
forecast public events. You can trade on the outcome
wIsdoM of crowds
of anything from where and when the next flu epidemic
James Surowiecki, in his book Wisdom of
will hit, to who the first black President of the United
Crowds
2
says “If you ask a large enough group of
States will be. In the entertainment world you can
diverse, independent people to make a prediction
buy and sell shares based on how much the next
or estimate a probability then average those
Hollywood blockbuster will gross at the box office or
estimates, the errors each of them makes in
you can trade on ‘virtual’ financial stock markets.
coming up with an answer will cancel themselves
out”. He illustrates his point using statistics from
InTernal decIsIon MakInG
the American version of the hit quiz show, “Who
Organisations are now beginning to experiment with
Wants to be a Millionaire?”. His research showed
prediction markets as an aid to their internal decision
that the ’expert’ opinion of a ’phone-a-friend’ had a
making and forecasting, using them to help predict
65% success rate, compared to the 91% success
sales and profits; identify the most appealing product
rate of ’ask-the-audience’.
features; forecast the success or otherwise of
Surowiecki cites four conditions for a crowd to
projects and predict the next competitive threat. To
be smart:
begin with, employees are given an account with an
initial balance in some fictitious company currency.
diversity. A group with many different points of
The basic sequence of events would then be:
view will make better decisions than one where
everyone knows the same information.
To begin a market, the company poses a question
Independence. Where people’s opinions are not
such as ‘How profitable will the new product line
determined by those immediately around them.
be? (Very, not very, it will lose money)?’ or ‘How
decentralisation. Power does not fully reside much will project A overrun its deadline (Slightly,
in one location. greatly, it will deliver within target)?’
aggregation. There needs to be some way of
determining the group’s answer from the individual
Employees, as market traders ‘buy’ stock in the
responses of its members.
various outcomes
Perspectives on the future | 19
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