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Interpreting the Predictions of Prediction Markets

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Charles F. Manski

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Abstract

Participants in prediction markets such as the Iowa Electronic Markets trade all-or-nothing contracts that pay a dollar if and only if specified future events occur. Researchers engaged in empirical study of prediction markets have argued broadly that equilibrium prices of the contracts traded are market probabilities' that the specified events will occur. This paper shows that if traders are risk-neutral price takers with heterogenous beliefs, the price of a contract in a prediction market reveals nothing about the dispersion of traders' beliefs and partially identifies the central tendency of beliefs. Most persons have beliefs higher than price when price is above 0.5, and most have beliefs lower than price when price is below 0.5. The mean belief of traders lies in an interval whose midpoint is the equilibrium price. These findings persist even if traders use price data to revise their beliefs in plausible ways.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 10359.

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Date of creation: Mar 2004
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Handle: RePEc:nbr:nberwo:10359

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Find related papers by JEL classification:
D84 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Expectations; Speculations
G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)

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References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Andrew Leigh & Justin Wolfers & Eric Zitzewitz, 2003. "What Do Financial Markets Think of War in Iraq?," NBER Working Papers 9587, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  2. Forsythe, Robert & Forrest Nelson & George R. Neumann & Jack Wright, 1992. "Anatomy of an Experimental Political Stock Market," American Economic Review, American Economic Association, vol. 82(5), pages 1142-61, December. [Downloadable!] (restricted)
  3. Emir Shuford & Arthur Albert & H. Edward Massengill, 1966. "Admissible probability measurement procedures," Psychometrika, Springer, vol. 31(2), pages 125-145, June. [Downloadable!] (restricted)
  4. Brown, Lawrence D. & Lin, Yi, 2003. "Racetrack betting and consensus of subjective probabilities," Statistics & Probability Letters, Elsevier, vol. 62(2), pages 175-187, April. [Downloadable!] (restricted)
  5. Ali, Mukhtar M, 1977. "Probability and Utility Estimates for Racetrack Bettors," Journal of Political Economy, University of Chicago Press, vol. 85(4), pages 803-15, August. [Downloadable!] (restricted)
  6. J. Dominitz & C. F. Manski, . "Perceptions of Economic Insecurity: Evidence from the Survey of Economic Expectations," Institute for Research on Poverty Discussion Papers 1105-96, University of Wisconsin Institute for Research on Poverty. [Downloadable!]
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  7. repec:att:wimass:19895 is not listed on IDEAS
  8. Charles F. Manski, 2004. "Measuring Expectations," Econometrica, Econometric Society, vol. 72(5), pages 1329-1376, 09. [Downloadable!] (restricted)
  9. Jeff Dominitz & Charles F. Manski, 2004. "How Should We Measure Consumer Confidence?," Journal of Economic Perspectives, American Economic Association, vol. 18(2), pages 51-66, Spring. [Downloadable!] (restricted)
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Ray C. Fair, 2006. "Interpreting the Predictive Uncertainty of Presidential Elections," Levine's Bibliography 321307000000000427, UCLA Department of Economics. [Downloadable!]
  2. Wolfers, Justin & Zitzewitz, Eric, 2006. "Interpreting Prediction Market Prices as Probabilities," CEPR Discussion Papers 5676, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
    Other versions:
  3. Ray C. Fair, 2006. "Interpreting the Predictive Uncertainty of Elections," Cowles Foundation Discussion Papers 1579, Cowles Foundation, Yale University, revised May 2007. [Downloadable!]
  4. Steven Gjerstad, 2004. "Risk Aversion, Beliefs, and Prediction Market Equilibrium," Microeconomics 0411002, EconWPA. [Downloadable!]
  5. Wolfers, Justin & Zitzewitz, Eric, 2006. "Prediction Markets in Theory and Practice," Research Papers 1927, Stanford University, Graduate School of Business. [Downloadable!]
    Other versions:
  6. Ray C. Fair, 2004. "Predicting Electoral College Victory Probabilities from State Probability Data," Cowles Foundation Discussion Papers 1496, Cowles Foundation, Yale University. [Downloadable!]
  7. Marco Ottaviani & Peter Norman Sørensen, 2004. "The Timing of Bets and the Favorite-Longshot Bias," FRU Working Papers 2004/12, University of Copenhagen. Department of Economics. Finance Research Unit. [Downloadable!]
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