iPredict on 2011 outcome

iPredict has three stocks on the outcome of the 2011 election, being which party will the Prime Minister come from after the election.

Most of last year the price for PM.2011.NATIONAL has been around 65c, but I noticed recently it is ow up at 80c, suggesting the market thinks National’s re-election is 80% likely.

The price data since the 2008 election is below:

As one can see, the sentiment in favour of a National victory has increased significantly so far this year, and in the last ten days has jumped 5c to over 80c.

Now people might say an 80% chance of National winning is about right. But in fact the market is saying the chances of National winning is around 85%, when you discount the use of money.

When a contract does not pay out for a while, the price of the stock reflects the cost of money, so even if something is 100% likely, people won’t pay 95c for a stock which pays out in 18 months, as the 5c gain on 95c investment is less than they would have got in the bank. This is why stocks with no chance of occurring such as John Key stepping down as National Leader this year are trading at 5c instead of 0c.

So what is the market really saying are the odds of National winning the next election. If you invest $80 you get $100 back in 20 months time. Now if you can (for no risk) put that in a bank account and get 8% per annum which is $11 over 20 months. So risk free you will get 91%. So effectively the premium for the possibly that National may not win is 9%.

So if we looked at it in terms of odds, National is 10:1 favourite.

If you think Labour has a better chance than 1 in 10 of winning the election so Phil Goff becomes Prime Minister, then you should sell PM.2011.NATIONAL or by PM.2011.LABOUR.