The Politics of Prediction Markets: John Phillips and David Mason

Tom Lenard: Good afternoon and welcome back to Two Think Minimum, the Technology Policy Institute's podcast. I'm Tom Lenard, President Emeritus and Senior Fellow at TPI. I'm joined by my colleagues TPI President and Senior Fellow Scott Wallsten, and TPI Senior Fellow Sarah O. Lam. Today is Wednesday, November 6th, 2024, the day after the election, and we are delighted to welcome John Phillips from PredictIt. The prominent political prediction market, for a repeat visit to Two Think Minimum. John is the CEO, the CEO of Aristotle, the company that runs PredictIt.

And actually, we're about to welcome David Mason, who is the General Counsel of Aristotle. So, we've got both of them here.

When we had John and David on the podcast last year, our discussion focused primarily on the regulatory challenges that PredictIt was facing. And maybe we can get into some of those issues later. But to begin with, I'd like to just talk about how this year's election, seemed to me, a really big one for political prediction markets generally.

So, I'd like to talk mainly about that. I think. I think. Then, maybe see if you guys agree that this was kind of a breakout year for prediction? Political prediction markets, in terms of their prominence, and the role they played?

I think they were much more prominent in news coverage than I recall them ever being and I, for one, looked at, PredictIt and several other election market sites. I’m in the habit of doing it several times a day, and I know many other people were doing the same thing. So first, do you agree that this was kind of a breakout year for prediction markets, political prediction markets? And if so, what do you think accounts for that?

John Phillips: Thanks, Tom and Scott and Sarah. Thanks for having us back on. It was about a year ago, right that we came on, and we were talking about the travails with the regulators. We're looking at prediction markets and considered it to be nothing short of gambling on politics, and of course this is a lot more than gambling. Although, there's a component of

that, I guess, in every day. Life is a gamble.

But in the prediction market, this was a breakout year. But I say that with the perspective being, this is our 3rd presidential election cycle. So, it's our 10-year anniversary last month of receiving permission from the CTFC, as you know, to operate, PredictIt. But it was certainly in terms of in terms of public acceptance of these prediction markets. You know, the public is especially the people who are predicted traders, and I think this probably goes for the other prediction markets that are now out there.

There's a general acceptance that these markets are valuable. They give information not just to people who are traders in the market, but also to people who are seeking to understand or better forecast future events, whether or not they have money in the market, being able to know what the odds of a particular election outcome, or a particular scientific discovery, or anything else happening in your lifetime or in the next 6 months, is hugely important. And these markets are not perfect by any stretch. But, they're far better in terms of performance than other methods of forecasting. It beat a crystal ball. They beat the magic curtain. They beat the pollsters and most firms. It's in terms of dispassionately forecasting what's likely to happen. But they're not perfect so, and when they're not perfect, that's really interesting, because they assign a price based on the probability. So, if something has an odds of 10%, that rare occasion, that 10% odds is, that's supposed to happen one out of every 10 times. So, so these odds are very valuable because they help us quantify not just future, the likelihood of future events, but also risk.

And to the extent that that these markets are now being accepted as a way of quantifying political risk for investors, for voters, for citizens, for politicians that's helpful.

I think it is a breakout year. I don't know if Dave wanted to add anything to that, but.

Tom Lenard: Do you think the political markets worked well, I mean, there were times during the election season, when the different markets had obviously different probabilities. And sometimes they generally converged after a while, but they were divergent. One might have favored Harris and another Trump.

David Mason: We didn't see a lot of that divergence in terms of the winner. We did see price divergence and directional divergence. In other words, the big move for Trump on Polymarket was October 6, and Calci and PedictIt followed about 4 days later. All right. So, there's obviously you know something going on, but I think most of that has to do with, you know, the structural features of the markets.

And so, for instance, Polymarket is not supposed to be taking US traders. There are pretty obviously some US traders on there, but at least a lot of non-us traders, Calci and PredictIt, are exclusively US traders and PredictIt is limited to small traders, right, with an $850 position limit. So, it's easy to understand that those differences between the trader pool and the financial limits on the market could produce some variances. I think what was more interesting to me was for the most part you actually saw these markets moving in sync, not day by day, but certainly week by week, for instance, and last night, I mean. One of the things I'm curious about was whether there was any arbitrage between Polymarket and Calci. I don't have a way of knowing that. But at one point the prices on Trump were almost 10 cents apart.

And you know, when you start talking about millions and millions of contracts, that's a lot of dimes for somebody to go pick up, and I hope somebody was doing it. But, last night.

Tom Lenard: Polymarket only takes crypto right? and Calci…

David Mason: Right? Sure that, yeah, there's another difference. You know, structurally, that could explain…But you know, for a sophisticated investor, right? Having dollars in one pocket and crypto in another and having a US entity here and a non-US entity there. Those are all soluble problems. But maybe not at the volumes right, that we're talking about.

Scott Wallsten: I think every day on our calls we would try to figure out why. You know what explains the differences in the markets, and whether it was arbitrage-able, and wondering if maybe the differences were all explainable by different fees and slightly different rules on how the contracts resolve, and if they're efficient that way, and that they actually prevent arbitrage along those margins.

David Mason: Yeah. Well, I think it was more a lack of volume that prevented arbitrage. Because, you know, if the markets had been bigger somebody would have figured out how to how to exploit that if they didn't. But, last night, when there really wasn't time for arbitrage, all 3 of the markets very quickly concluded that Trump was the winner long before the pundits were ready to make that call, and I think that illustrates one of the great values of these markets is in terms of real time analysis.

So, you know, back during the 1st Presidential debate, when Biden did so badly. You could see that on our market real time, right? And you didn't, you didn't have to figure out. Well, I am just thinking this, or whatever you could, you could see the investors making those decisions, and very early on the active investors on these markets are doing the kinds of things that the analytical desks at the networks do comparing 2016 totals to 2020 totals to 2024 totals, you know, looking at key precincts, all that sort of thing. And long before any of the networks were willing to make the calls, the markets made the calls, and then Trump was already at 90% very early in the evening. So again, useful or great example of the utility and the accuracy of these markets.

Scott Wallsten: Do you think? Do you think the political parties, the consultants, will start to take notice, or are they too entrenched and protective of their own jobs, I mean, because you could see this not just last night, but Harris's probability of winning started decreasing immediately after the convention.

But all of the coverage was just enormously positive, and they were completely ignoring what the markets were showing was a long time ago, so you know, things could have gone different so who knows, but.

David Mason: That. Yeah, that's the media. And that's so. That's a whole other question. But in terms of the consultants, they already do. The smart consultants are already looking at these markets to help understand. You know what's going on with their candidates, with the overall climate, and so on like that. And if these markets are allowed to continue to function, the consultants who ignore them will be out of business.

Tom Lenard: I mean I was struck by just listening to some of the coverage last night that you don't need to wait till all the news organizations call the election. You could just look at the probabilities, you know, going up above 90% and say, well, these markets have called the election.

David Mason: Precisely. And again, the people who are investing in these are intensely interested. They're highly analytical. We've had some great experiences. I think John may have talked about super forecasters with people who invested small amounts of money on, PredictIt, and made large amounts of money over time because they were willing to do the analysis and the hard work to figure out what was going on. And so, you know, we talk about crowdsourcing right. This is an opportunity for people who don't have a job at NBC News or Fox or somewhere like that, to go in and do this. And it turns out. A lot of them are very, very good at it, and when you aggregate those opinions, it gets even better.

Tom Lenard: I mean the major polls. Well, but let me ask you, I mean, my impression was, I guess I wasn't following all, the polls basically favored Harris going into the election or?

David Mason: Marginally at the end, I mean, I think the polls. The pollsters were kind of throwing up their hands. There were a few outliers like the Ann Seltzer, Iowa poll. You know that that showed Harris winning Iowa by 5 points or something like that, but I think in fairness to the pollsters…They were directionally wrong, but not by much.

Scott Wallsten: How do you view the relationship between polls and prediction markets? I mean, often people present them as if they're 2 different views of the information. But, in a way they're complementary, right? I mean, people use how they view the collection of polls to, you know. Think about how they want to place their what contracts they want to bid on.

David Mason: Oh, absolutely and you can also throw into that mix models.

Scott Wallsten: Hmm right.

David Mason: And a lot of election forecasters use models, and there's nothing wrong with looking at all 3 of those sources and taking all 3 together, and making for a better information mix.

Tom Lenard: I mean, I guess I guess there's some AI models that were somewhat prominent in this. And the one that I see referenced, this Aaru model, but got it wrong, I think, in the end. But that's the one that seems to be most prominently mentioned

David Mason: I'm thinking more about the sort of proprietary ones that are done by some of the, you know, some of the leading pundits, and so on like that. And the problem for the models is insufficient data. Right? We just don't have enough elections when you're looking at financial markets. Right? We have everyday markets going on, and millions and millions of transactions, and so on, like that. Major elections we just have once every 4 years. And so, there's just not enough data to produce a really reliable model, not to say they're worthless. But they just have limitations because of the data.

And that, by the way, is where prediction markets really fill back in right compared to polls, where they're interviewing a sample of, you know, a few 100 people, or whatever like that. These markets can harness the opinions of thousands, or perhaps ultimately millions, of different people.

Scott Wallsten: And the models are inherently backwards looking, because that's the data they have to work on. And the markets are, what? People's predictions?

David Mason: Yeah. And they're very, very good until they're not anymore. They won't pick up the Black Swan event. And that's the sort of thing that a prediction market is going to be much better at right.

Scott Wallsten: The models will always very accurately predict the last election.

David Mason: Yes, perfectly.

Tom Lenard: But I mean so. Is there any particular reason why it was just this election that they, you know, everybody was looking at prediction markets, and you know? That they kind of…

David Mason: They're just so much more available, right? I mean, John mentioned. We've been doing it for 10 years, but 10 years ago we in Iowa were the only games in town, and Iowa is just not very prominent, because it's not promoted and this year, all of a sudden you had Polymarket out there. You had Calci out there, both of them, open to unlimited numbers of people, effectively unlimited amounts of money. Both of which, had big advertising budgets to generate. You know, the interest in the markets.

And so, I think you know, it was the fact that you had effectively 3 counting forecast X, big new markets out there that caused people to look at them more intensely than they had before.

Tom Lenard: You expect there to be more entry, or I mean or do you expect…

David Mason: So, Aristotle, the parent company of Market Manager, has applied to the CFTC for DCM. And DCO. So, and we're well along that process. We're hopeful of approval. And so, if the CFTC approves that application, we'll be in business soon. We hope.

John Phillips: Yeah, and there'll be other entities that come into the market. I mean, it's one of the differences you mentioned at the beginning of the call, Tom is, you know, it's actually good to have some company in the prediction market space. It makes us all better at what we do.

And as Dave said, they're different. Each one has some structural differences in terms of how they operate.

We are comfortable, maybe because we've just been honing our model. I mean, our structure, for a decade. But there are other ways to do it. And there will be ways that none of us have thought of that that will probably be pioneered. But this is a changing space with a lot of innovation going on. It's very exciting. It's a lot of fun.

Tom Lenard: What sort of economies of scale there are? How do you know what you know in terms of how much room there is for how many markets?

John Phillips: I don't know. So, I don't even know how to think about that question. I mean. What, what do you suggest? I think you know there's differences in fees. For instance, there's differences in limits.

Tom Lenard: But Calci, I haven't been following the legal, the legal stuff with respect to the CFTC between…But there's obviously, presumably we're going to have a new CFTC, and I don't know what their views will be on prediction markets. But Calci has been…Calci has had to be in the market this time. They had to win a court battle, right?

John Phillips: Yup. And we supported them in that. I guess, brief? Yeah.

Tom Lenard: That's not finished yet. That's that, you know that process so dumb.

David Mason: Right. But if the, if the collective views of the CFTC Commissioners change, then you know that would be a different route too. I think Calci ought to win the suit. I hope they do. But if 3, 3, you know right. Already, this was a 3-2 issue on the CFTC in terms of the both the rule and the Calci application. And so, with a Trump appointment that could very well flip.

John Phillips: Their fortunes in court have not been…have not been good. I mean. The real question as we talked about the last time is, whether this is it? Given how useful these markets are. If this is a suitable use of taxpayer funds for the CFTC to be harassing and waterboarding entities like us that that are offering a service. And I, it's hard to…It's hard to conceive of a less hospitable environment than the one that currently exists. So, we're hopeful that things will improve and…

Tom Lenard: Explain a little bit what this application is you have in front of the CFTC.

David Mason: So, a designated contract market is essentially a Stock Exchange for commodities. And there's a general agreement that if these contracts are going to be regulated on the Federal level, they're going to be regulated as commodity type contracts. As a legal matter, it would be the same status as, for instance, Chicago Mercantile Exchange, or Cboe, right or ICE. The big commodities exchanges.

And maybe we'll get that big someday? Not soon. And the designated clearing organization is just a clearing house that sits behind the market and does sort of the financial plumbing for the organization, and so by tying those 2 together, the market and the Clearinghouse together, you can achieve some efficiencies in operations and finances.

Tom Lenard: Does that mean you would cut your ties with Victoria University, or?

David Mason: Not necessarily no, we think one of the things we're not sure about, but that we have, you know a guess about, is that there are some investors who don't want to get in the pool with the whales.

Right? And they like the idea that there's a limit to, not only to how much I can bet, but to how much other people can. And that crazy guy in France that invested, you know, 50 or 60 or 70 million dollars in favor of Trump. Right? I don't want to...I don't want to have to be betting against him. So, there may well still be a place for small dollar research focused markets along with, the, you know, the bigger markets.

Tom Lenard: Talk, talk a little bit about what sort of research you do sponsor? And you're interested in. What sort of research questions do you think are interesting questions?

David Mason: John mentioned super forecasters. A guy, I think he did, and those are key. One thing people listening should know is that we turn over trading data that's anonymized, right? And so, the researchers get numbers and not names. But they can still go in and look and see trader behavior over time.

And this can be very valuable to just understand. Okay, who are these people? And what do they do. I think one of the unexplored areas is, are there leading indicators? Are there investors that you can pick out who consistently move earlier than the rest of the market?

Or who do things in certain ways that that would be an indicator that something's about to change? Those kinds of questions, micro level questions, are the ones that are most interesting and that these markets may be most useful for.

Sarah Oh Lam: What about if there are applications for, I mean the press and the media. There needs to be more information to report on, and you all have like a source of truth. Do you think there'll be more media attention on your numbers?

John Phillips: I think so. I mean. I can foresee a day when news organizations are going to have, their reporting and then there will be a window which will display the contemporaneous odds to the reporting. This is a great way for news organizations to monetize very expensive content which they have to produce in the form of a reporter writing a story and researching it, and then getting fact checked and spell checked and then published.

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Being able to monetize that news content where people can then place a small that small forecast based on the information they're absorbing about a political event, for instance, or a candidate that's kind of an interesting monetization play for media. And so, I think there will be more use of this. If you go to the Bloomberg News site, there's been a constant feature there on the right-hand side of the page, which shows the prediction markets including PredictIt. But, I'm saying just any kind of news reporting or other kinds of reporting on other types of events which people want to know. Well, I mean, a lot of what the news is “what's going to happen next? What? What does this mean?” And to be able to see what the crowd thinks it means is very useful. I think.

Sarah Oh Lam: Yeah, I can see. Foresee, I mean, if there's enough volume to be able to put in a little, you know, vote on a local event, local news or and even there was a time before you know, CNBC didn't exist. You didn't have the tickers on the TV. But with more information, you could have that like a running Twitch or stream of many, many topics.

John Phillips: Sure, there's also an entertainment component to it, right? Because these things are so much fun. And you can see you could, I can imagine they're going to be. That's another direction in which people are going to take these markets.

Scott Wallsten: So that leads to sort of a much less weighty question I have, which is, how do you decide what questions you want to create markets on? And then how, internally, do you decide what the resolution of those markets will be? I mean, sometimes it's obvious. President, you’re going to have a market for President. But there is a huge number of possible things that people want information on, that you could create contracts for, and you've got to make some decisions. Do you have processes for that? Do you meet every morning to talk about it, how does that? How does it work?

John Phillips: Dave, you want to tackle that one?

David Mason: So, yeah, we, I mean, we have a markets committee, and they're the ones who decide and what they're looking for are what are our investors interested in? And there's a lot of trial and error, you know, and over 10 years we got better and better at figuring out, okay, what? What would you know? People who are interested in political markets in particular, think about or be interested in? And so, for instance, one of the one of the things that I think was an innovation of ours was bracket markets. So, a lot of times there are Senate races, governor races, where, you know the reelection really isn't in great doubt, because you've got a heavily red electorate or a very popular incumbent, or something like that. But the traders were very interested in whether this was going to be a 55% or 57% or 60% victory right. And so, we introduced those markets, and they got a lot of trader engagement.

You're really looking for what you know. What? What does the investor base, you know. Want want to opine on. And then sometimes just whatever's right in the news cycle. So, when we had Supreme Court nominations, those were always very controversial. You know the Senate was never you know, so strong, one way or the other that that was going to be an easy lift for anybody. And so, anything that really dominates the news cycle is going to be a good market.

John Phillips: Yeah, there's also another component to it. I think Dave alluded to it, which is what makes a good market is where there's a clear binary outcome, right?

David Mason: Yeah.

John Phillips: Understanding the brackets. But yeah, if you, if you have clear binary and a truth source meaning something that's an undisputed source of accuracy of what just happened, or what has to happen for this to pay out to the Yes or to the No side.

David Mason: And that's a substantial part. Yeah, of you asked about how you determine. And that's 1 of the key questions that we're talking about while we're thinking about? Is this a workable market? And how do we want to design it is okay, what? What is our settlement source?

And we need an election agency. Sometimes it's the House, or the Senate, or whatever like that. And you want to pay a lot of attention to getting that right. There's no ambiguity as to when it happens, whether it happened or not.

Scott Wallsten: I think the bracket markets are particularly interesting, because I think people like to make an analogy to covering the spread in sports betting, except that here you really want people. It's consequential how much someone wins by, whether they have a mandate, what they'll be able to do. And so, it's much more. I mean, it's actually meaningful.

David Mason: Right! Right!

Tom Lenard: Well, this is this has been great, very interesting and we're happy that you guys are thriving and the markets are thriving. Hopefully, we can do this again sometime.

John Phillips: Invite us back. We love coming on this. This is great. You guys have the best questions. Yeah, okay, thank you. Take care! Bye.