Wanna bet (invest) on who wins election?
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Looking for a way to hedge the economic risks this year's presidential election pose to what's left of your retirement savings?
Or do you just want to place a government-regulated bet on whether a donkey or an elephant will cross the finish line first in November?
Investors would be able to do either if a proposal by a Chicago online exchange wins approval from the federal agency that regulates futures markets.
The North American Derivatives Exchange, or Nadex, wants to sell futures contracts that reward or penalize investors based on which political party gains control of the White House, the House of Representatives and the Senate. The Commodity Futures Trading Commission is soliciting public comments on the proposal and could make a decision this spring.
Nadex wanted to start selling the contracts Jan. 4, the day after the Iowa caucus. But the commission's concerns that the contracts might be gambling prompted the agency to put off a decision for 90 days.
Some worry political operatives or deep-pocketed investors could affect the outcome of races by buying or selling contracts to make a candidate look stronger or weaker than he actually is. But experts who have studied political futures markets find no evidence of ne'er-do-wells ever manipulating prices for very long.
Supporters say the contracts will allow investors to hedge the economic consequences of elections, such as higher taxes, less regulation or changes in health care costs.
Opponents say government approval of the contracts will confirm the suspicions of some that Wall Street is little more than a casino.
"It should be regulated exactly the same as legalized online sports betting, not investing," Mt. Lebanon financial planner Robert Nusbaum said.
Here's how Nadex's winner-take-all contracts would work:
An investor who believes President Barack Obama will be re-elected would purchase a contract priced somewhere between $0 and $100. A $53 price would reflect market sentiment that Mr. Obama has a 53 percent chance of being re-elected.
The "investor" could trade the contract throughout the campaign, taking a profit if the likelihood of a second term for Mr. Obama increases or cutting any losses if the GOP nominee gains ground, causing the price of the Obama contract to fall.
If Mr. Obama won, someone holding the contract after the election would collect $100 -- the $53 paid for the contract and $47 -- the difference between the price paid and $100.
If the incumbent lost, the investor would lose the $53 paid for the contract.
To alleviate concerns about market manipulation, Nadex would prohibit investors from owning more than 2,500 of each type of contract. So a person who purchased the maximum number of contracts at an average price of $56 per contract would lose a $140,000 investment -- $56 times 2,500 -- if the party invested in did not win control.
Similar contracts are already available at marketplaces like Intrade, an Irish exchange that is outside the commission's purview. Intrade prices its "shares" between $0 and $10. As of Monday, a share on former Massachusetts Gov. Mitt Romney becoming the Republican presidential nominee was priced at about $9, reflecting investor sentiment he has a 90 percent chance of winning the nomination.
Nadex President and CEO Yossi Beinart said Nadex's proposal would give investors the protection of a regulated market while they hedge the very real risks the outcomes of elections pose.
"[Investors] are going to continue to do this," Mr. Beinart said. "The real question will be: Is it regulated?"
Mr. Beinart said Nadex's online exchange targets retail investors rather than the Goldman Sachs' of the world. It offers contracts based on stock index futures; crude oil and natural gas; foreign exchange; and three economic events: jobless claims, nonfarm payrolls and the fed funds rate set by the Federal Reserve.
Mr. Beinart said the maximum price for trading one contract is 90 cents. Costs are lower for investors who trade more actively, he said.
Political futures markets existed before the turn of the century, according to Koleman S. Strumpf, a University of Kansas business professor who has studied them. He said the contracts date to New York in the 1880s. Betting on winner-take-all contracts -- the same kind of contract Nadex is proposing -- was centered at the New York Stock Exchange as well as other locations, including prominent hotels, Mr. Strumpf said. Newspaper reporters covering elections frequently visited the trading pits to get a sense of who was winning or losing a campaign. Millions of dollars were wagered at the exchanges.
"These markets were super, super popular," Mr. Strumpf said, noting there were limited betting opportunities in those days. "It was like the Super Bowl, March Madness and the World Series rolled up into one."
The equivalent of $158 million -- based on the value of a dollar in the year 2000 -- was wagered on the 1916 elections alone, Mr. Strumpf said.
He had a hard time trying to document why the contracts disappeared after the 1920s. The advent of public opinion polls, a source newspapers felt more comfortable citing than derivatives traders, may have had something to do with it, Mr. Strumpf said.
"We don't have a great explanation for why they petered out," he said.
Mr. Strumpf said based on his research and the research of others, political derivatives markets of both eras have two things in common: They accurately predict winners and are pretty much manipulation-proof. While prices may drop suddenly and sharply, prices generally quickly move back to reflect underlying market sentiment about a candidate.
"It's hard to manipulate these markets," Mr. Strumpf said.
That's not reassurance enough for John Nafeh, the founder of HedgeStreet, an online, regulated futures exchange purchased in 2007 by IG Group. The United Kingdom firm later renamed it Nadex. Mr. Beinart said Nadex handled 945,000 contracts last year, a fivefold increase over 2010.
Mr. Nafeh is urging the commission "to save our political system" by not approving Nadex's proposal.
"We all know very well by now what brought the global financial system to its knees -- the Derivatives Casino!" Mr. Nafeh said in comments emailed to regulators. "The last thing we need or can afford is to repeat the same errors for our political system that was bequeathed and entrusted to us by our founding fathers."
First Published January 17, 2012 12:00 am
