Do Prediction Markets Produce Well-Calibrated Probability Forecasts?

Journal Article (Journal Article)

This article presents new theoretical and empirical evidence on the forecasting ability of prediction markets. We develop a model that predicts that the time until expiration of a prediction market should negatively affect the accuracy of prices as a forecasting tool in the direction of a 'favourite/longshot bias'. That is, high-likelihood events are underpriced, and low-likelihood events are over-priced. We confirm this result using a large data set of prediction market transaction prices. Prediction markets are reasonably well calibrated when time to expiration is relatively short, but prices are significantly biased for events farther in the future. When time value of money is considered, the miscalibration can be exploited to earn excess returns only when the trader has a relatively low discount rate. © 2012 Royal Economic Society.

Full Text

Duke Authors

Cited Authors

  • Page, L; Clemen, RT

Published Date

  • May 1, 2013

Published In

Volume / Issue

  • 123 / 568

Start / End Page

  • 491 - 513

Electronic International Standard Serial Number (EISSN)

  • 1468-0297

International Standard Serial Number (ISSN)

  • 0013-0133

Digital Object Identifier (DOI)

  • 10.1111/j.1468-0297.2012.02561.x

Citation Source

  • Scopus