Predictive Power of Information Market Prices
The Journal of Prediction Markets, Forthcoming
31 Pages Posted: 6 Jul 2011 Last revised: 15 Aug 2011
Date Written: June 23, 2011
Prediction (or information) markets are markets where participants trade contracts whose payoff depends on unknown future events. Studying prediction markets allows to avoid many problems, which arise in some artificially designed behavioral experiments investigating collective decision making or individual’s belief formation. This work is aimed, first, to verify whether predictions made by prices of binary options traded in information markets are reliable and whether the prices contain additional information about the future comparing to the information available from the dynamics of underlying asset only. Second, inter- and intraday microstructure of the market of binary options on Dow Jones Industrial Average index is examined and described quantitatively. Third, since some ability to forecast future changes in the underlying asset is detected, a simple trading strategy based on observing the trading process in the prediction market is suggested and its profitability and applicability is evaluated.
Keywords: Prediction Market, Forecasting, Probability, Trading Strategy, Market Microstructure
JEL Classification: D49, D83, G13, G14, G17
Suggested Citation: Suggested Citation