Thursday, February 14, 2008

Poker Cheating Buster Cashing in on Presidential Election/Richard Marcus on "Keep Flopping Aces" radio show tonight!

Serve Ravitch, the professional poker player who was instrumental in exposing the giant Absolute Poker Scandal, now says he can cash in on the outcome of the upcoming US Presidential Election. Here's a news article that appeared around the world yesterday:

THERE IS a professional poker player in New York named Serge Ravitch who is convinced he can make money off this year's presidential election. But to explain what he's up to, I want to start with a story about Super Tuesday.

By early evening last Tuesday, Hillary Clinton looked very likely to win the Democratic primary in California. The initial exit polls showed Clinton ahead by three points. As more polls came out, her lead grew.

But everyone knows that exit polls can be misleading. So on Tuesday evening, I also checked out Intrade, a Web site based in Ireland where people buy and sell contracts whose price is tied to real-world events. Strangely, the prices on Intrade were suggesting that Barack Obama would win California.

There was good reason to take those odds seriously: Intrade has done an excellent job of predicting election results over the last few years.

It's no wonder, then, that the site has become a phenomenon. In recent months, when I have asked former advisers to Bush or Bill Clinton what they think will happen in 2008, they've often talked about Intrade.

But now a little backlash has begun. Barry Ritholtz, author of the popular Big Picture economics blog, has put together a list of Intrade's misses. Last Tuesday, meanwhile, I e-mailed a high-profile Democratic economist and asked what he made of the dueling numbers coming from the California polls and from Intrade. He replied with a salty two-word message, the second word of which was "Intrade."

Then there is Ravitch, 27, a lawyer turned poker player whose previous claim to fame was his role in exposing an online-poker cheating scandal. In late December, he started posting notes on an Internet message board vowing to profit from what he saw as Intrade's blatant inefficiencies. He has generally been announcing his trades as he makes them, and most of them have paid off. In the span of just six weeks, he says, he has earned a 35 percent return.

"I believe quite simply that the people who are trading on Intrade and the methods they're using are so flawed that they can't be right in the long run," he told me.

After what happened on Super Tuesday - Clinton won California handily - I started to wonder if he had a point.

The mechanics of Intrade are simple enough. You can buy or sell a contract tied to the outcome of an event - Will Barack Obama win the California primary? Will "Atonement" win Best Picture? Will the United States or Israel bomb Iran this year? - so long as you can find someone else willing to be on the opposite side of the bet. Once the outcome becomes clear, the contract pays either $10 or nothing at all.

At 8:30 p.m. last Tuesday, the Obama-wins-California contract was selling for about $6 (which meant the market collectively thought he had a 60 percent chance of winning). If I wanted to bet on him and you agreed to bet against him, I would have deposited $6 in your Intrade account. Had he won, you would have owed me $10 - the original $6, plus $4 in profit. Since he didn't win, you would have kept my money. It's all very similar to the futures market on Wall Street.

Or at least it's similar in concept.

In practice, Intrade is different because there still isn't all that much trading on the site. John Delaney, Intrade's chief executive, said that roughly $50 million in contracts tied to the 2008 election had changed hands already, which is up from $15 million for the entire 2004 election cycle.

The limited size of Intrade's market has created two main problems. The first is that the biases of a small group of traders can have a big effect on prices.

Ravitch has made a nice profit betting against Ron Paul, the libertarian who late last year was, amazingly, given almost a 10 percent chance of becoming the Republican nominee.

In a more liquid market, Paul's small band of intense supporters wouldn't be able to affect his price. On Intrade, they can. Along similar lines, Al Gore is now given an 11 percent chance of being the Democratic vice presidential nominee, which Ravitch considers silly.

The second problem is that the market seems to react to new information too slowly. In a healthier market, you can't easily predict where prices are going.

On Intrade, reactions often happen in slow motion - and eventually turn into over-reactions. Obama's stock rose for days after he won Iowa, then fell during the two weeks after he lost New Hampshire and rose again in the 10 days after he won South Carolina. The impact of each contest took surprisingly long to sink in.

For this reason, Ravitch has recently been betting that the odds of Obama getting the Democratic nomination will keep going up this month, even though they were already around 60 percent when we spoke late last week. As Obama wins more primaries, Ravitch figures the contracts will continue to gain value, and he can then sell them before the March primaries, which look more favorable to Clinton.

I suspect that something similar happened with the California contracts: There simply was not enough trading volume to ensure that the market reacted quickly enough to new information, not enough smart money.

The California prices were particularly striking, because in the past Intrade had been most useful on the day of elections. Its longer-term odds - like the fact that the Democrats are given a 66 percent of winning the White House - may be interesting, but they are based on probabilities that are inherently unknowable. On Election Day, by contrast, the odds can reflect real information, like exit polls, voter turnout and early returns.

So it is fair to say that Intrade is not as advanced as some had thought. But that is why the existence of people like Ravitch is so welcome. As more traders try to exploit Intrade's inefficiencies, those inefficiencies will become rarer and rarer.


Tonight at 9 p.m. EST, 6 p.m. PST, I will be the guest on the popular 1-hour radio show "Keep Flopping Aces." Naturally Lou Krieger and I will be talking all about cheating in the poker world. Tune in live worldwide to Rounders Radio. If you miss it, there are upcoming podcasts.