I finally did it, took the plunge and signed up on PredictIt
I've been wrestling with this for a while because of my two main conflicting forces :
expected value vs the
macro dream of short VIX, prediction markets, a much more liquid/expanded future of markets.
On the EV front nothing has improved, PredictIt still has a 5% rake on wins based on your cost basis and a 5% rake on withdrawal, making it an effective Hotel California, but ultimately it is the only way to get exposure to non equity 'short VIX' markets which I've been blogging about for 2 years: the conceptual 'real life' volatility of events and fading unexpected outcomes.
Delving in: How is trading politics a short VIX trade?
I actually don't see this as a partisan/political trade at all, rather getting exposure to the mechanics of government regardless who is in the House/Senate/executive. (and possibly international election markets as well, but I think those are more correctly priced)
Lets take one of the most traded (on volume) bets on the board:
As of posting this the line is at 21c yes/ 79c no (forgive the screenshot timing mismatch) meaning being long the "no" at an avg. price of 79c would be worth $1 at "expiration" on Dec 31 2019, a (21/79)~ 26.5% ROI (before the death rake) in ~7 months, which is ~42% annualized.
Already I've inserted the phrase "expiration" so I've somewhat played my hand, but if you don't see where I'm going with this:
We are looking at essentially a short premium/ theta decay trade where there is a 21c option premium burning from now until Dec 31. (logically with 1 month or 1 day til expiration, the trade should be at 99c no/ 1c yes, as you can see several other 1 DTE political/election trades appear on the site)
The crux of the issue however: Why is this an obvious no? (a winning long 'yes' at 21c is 927% AROC)
Well, #1 if you care about option markets/sports betting, the overall direction is that it is a no given the spot price- the issue is how correctly priced it is, how much theta we are looking at ,etc.
(#1.1- why is this different from Trump having 1% chance to win the night before the election? - those were polls, not prediction markets/ skin in the game)
#2 lets look at the historical trends of 2/45 POTUS getting impeached, if you are in the 'spherical vacuum' of picking colored marbles out of a bag, that is a 4% which is closer to what I would assume this market should be priced at.
#3 the real meat of the assumption- the layers of government/bureaucracy/politicization we are looking at that create a 'status quo' buffer. Politics broadly is about little victories and compromises, meaning set the goal post of impeachment, then shift that to
-better mid term election numbers
-more twitter followers
-more campaign contributions
Which become a somewhat measurable 'smaller victory' and shift away from the red tape nightmare and optics of losing a majority vote on impeachment.
#3.1 the counterplay of IG Horowitz/FISA 'legal action' etc coming the other way, politically it might make sense to have an effective truce effectively adding to that status quo buffer.
A few more points on this trade specifically:
Which has spot 'no' at 72c for a Jan 20 , 2021 expiration (21% AROC- literally half the 2019 trade for an almost identical market direction/assumption)
-Compare to 'trump GOP candidate', 'trump 2020 winner', which have him at 2x the next place. If that is where the line on those markets are, then a >20% chance of impeachment vote seems fundamentally mispriced as a reflection of the incentives of the house and senate to conform to their constituent status quo.
-Compare to world election markets currently up: Netanyahu indicted, Nigerian pres re election, pope vacancy- All with lines in the <10c range which seem much more correctly priced given that you are trading a massive upset. Compare that to the .90 delta equity options when get hit all the time!
Now looking toward other/broader PredictIt trades
The trump 12/31 impeachment is just one example with some pretty clear numbers, but is by no means the end of the short VIX/ theta decay I'm looking at.
Some others that come to mind:
Both have a very similar short VIX structure to the Trump impeachment trade, despite them being polar opposites politically- which is why I prefaced these trades as non political. We are looking at fading a historically unlikely and status quo buffered move, with a defined duration / AROC. The Trump version of it is just a little more juiced, but I'll probably add on positions in all of them.
Lets look at some cons:
So we have gone over this as a semi uncorrelated market to equities with some actual ROI numbers, fairly tight markets (better than many equity options) and most importantly a small enough total market to not get insta zapped by big bank algos(thus the mispricing) but obviously it took me a while to bite the bullet because of some big problems:
-Insane, unbeatable rake: 5% on profits and 5% on withdrawal. That is some live poker, 2/20 fund manager level of unbeatable, so you basically need trades like the trump 42% AROC to even think twice.
-Inconsistent markets- as we are entering election season we have a lot of new trades coming up, and specifically under trump with the nonstop legal backdrop on the whole presidency, we probably won't have this kind of impeachment risk premium going forward. This ties into the "AROC" issue, as these 'impeachment/ by end of term' trades are 1 time, and thus bad for an AROC model like compounding dividends or rolling option premium monthly. Unfortunately we need some way to quantify things, so we have a trade, risk ,and duration, so there you are.
-Counterparty risk- here is a big one, PredictIt is pretty much the only one in this space, with a few sports betting sites touching US election/primaries, but nothing with the depth of the justice department investigations, world politics. We are already looking at withdrawal 30 day type issues and who knows what kind of regulatory/ liquidity issues could spawn.
-Size - lets call this .5 because due to the above counterparty risk, you should probably stay small anyway, but there is a total position size cap, which is good in some cases as it keeps big fish out and keeps potential mispricing.
-All or non trade- Yes this is basically just sports betting, where you win or lose all at expiration, you can't sell a call against your position/ flatten your deltas, / lower your cost basis, so ultimately I think of it like a vertical spread where at entry you are looking at a max premium win or max loss, take it, and move on to the next trade. This ties into sizing above, as sizing/ risk management is half of vertical spread/ leverage trading.
Lets start here for now, I've got a lot more to add in terms of discussing the current trades, upcoming trades as they are added to the site , as well as such prediction markets being a big part of my future vision of markets.
Stay tuned!
