Recently the HSX, a longtime favorite of prediction market advocates, was approved to start trading in real-money derivatives. The HSX using artificial currency has been used for many years to correctly estimate box-office receipts among a diehard but non-professional crowd; along with wikipedia, I think it’s one of the best examples of how “the crowd” can perform excellently without any financial inducement.
The chief mover behind the change was Cantor Fitzgerald, the new owners of the HSX. Cantor seems to be using its cachet as one of the largest 9/11 victims to push the limits of the “gambling versus trading” debate. I think Cantor’s motives here are transparent — they want to be playing bookie, and ideally exclusive bookie, to as many markets as possible. It doesn’t matter to Cantor whether those markets are on government debt, sports betting, or movie ticket sales.
The largest obstacle in moving to real money was the approval of the CFTC — a screening process by real adults who wear suits. There’s quite a bit of information on the HSX proposal scattered around the CFTC website, including all sorts of briefs and drafts and reports. Of all the stuff of it I’ve read, the MPAA brief against the real-money HSX made the most sense to me. Their two points that struck hardest for me were
The contracts will not be used for hedging. The most prominent story about why these contracts should be traded is that certain parties (mostly the studios but also the actors and movie houses, I suppose) have exposure risk to the success or failure of a film. Of course, on any contract you can always construct a theoretical hedger. Even for betting on a coin flip or a dice game; maybe someone has a substantial psychological revulsion to seeing George Washington’s face or the number four. However, the MPAA argues that the parties with material hedges on these events will not participate in their trade. I think given their status as an industry trade group this is a persuasive argument. The MPAA further alleges that because these contracts will not be used for hedging, they will only be used for gambling, and are therefore in violation of sundry statutes scattered about the states.
The data the contract settle on are manipulable. The data used to settle the contracts explicitly state that they are not intended for use in settling financial contracts. This is ultimately because they’re estimates based on assumptions, not a nitty-gritty verified and audited source.
Ironically, the one argument I don’t buy at all in the MPAA’s brief is that the HSX will impact the film-making industry at all. At worst, the markets will fizzle and have no impact, and at best they could provide free exposure for films. Then again, the MPAA doesn’t exactly have the best track record with knowing what’s good or bad for it.
Now, this all brackets the issue of whether the real-money HSX will actually work. I view it as very unlikely that the trading volume on these markets will come anywhere close to a significant fraction of movie revenue, and I view it as even more absurd that the HSX could somehow provide and IPO-style market for financing filmmaking outside of the traditional studio system.
And what we seem to be coming to, then, is a fundamental existential question. I ultimately believe that a real-money HSX is unnecessary. These markets are supposed to provide a way to hedge risk on people seeing films (of course, shouldering such calculated risks should be the whole purpose of a studio in the first place, but regardless…), but if I were a studio with exposure risk on box office returns I would shop that risk around to creative hedge funds with good models willing to take an equity gamble. The two big things a market provides, consolidation and anonymity, are just not necessary in this scenario. On every contract there’s just one movie and one seller of exposure risk.
Given that I’ve done some research in (and implementation of) prediction markets, my position might be a surprising one. Ultimately though, I think that speculative trade should always be secondary to real concerns; speculative trade for the sake of speculative trade is silly and non-productive at best and systemically dangerous at worst. The HSX decision is a bad policy and a worse precedent.
