Nerd vs Nerd (vs Us)
The Philadelphia Stock Exchange announced yesterday it will start making a book on "events". Yes, we ordinary citizens will be able to buy/sell the over/under on a number of so-far unspecified events. OK, it's not quite as racy as it sounds -- there are no plans (so far, anyway) to give spreads on football or basketball games. More likely will be bets on economic numbers like non-farm payrolls, crop numbers or individual company earnings reports, or even on events like outbreaks of mad cow disease. Coincidentally, an outfit called HedgeStreet Inc from San Mateo, California, will be offering a similar wagering venue in Q3. This is already done in some places -- notably in the UK where companies like Ladbrokes will make a book on just about anything. The difference is, Ladbrokes is explicitly in the gambling business, with High Street betting shops where people can go and bet on horse races and stuff.
Are we getting too far away from Useful Economic Purpose? Believe it or not, the original futures exchanges did serve a useful economic purpose. A farmer, for instance, who wanted to be sure how much he would make on his wheat, could fix the price today for delivery in three months, hence know that he had enough money to shell out on the new harvester. On the other side of the trade, the flour company would know exactly how much it was going to have to pay for the wheat. In other words, it was all about risk: both sides could reduce their risk.
Maybe not. You can see how the Philadelphia Betting Shop might serve the same function. A hedge fund that was short treasuries, for example, (expecting interest rates to go up, perhaps because it thinks the economy will overheat) might be hurt if the non-farm payroll number came out too low (implying weak economic activity, hence lower interest rates and higher treasury prices). At the right price, it might be worth it to hedge a little just in case they were wrong. Who would take the other side of the trade? I suppose maybe a company that was preparing to issue bonds next month might want to protect itself against rates going up. All sounds pretty reasonable.
But do we really need it? We pretty much already have as many derivatives as we need to do the job of spreading risk in an economically rational way. (See our post from a couple of days ago: $1.9 trillion a day in FX contracts!). Let's not forget that even when the risk-spreading is economically efficient, it's still a zero sum game. You can't help thinking that this is just another way for one set of nerds to pit their computers against another set of nerds. Each side takes its "management fee". Guess who's the loser?
Are we getting too far away from Useful Economic Purpose? Believe it or not, the original futures exchanges did serve a useful economic purpose. A farmer, for instance, who wanted to be sure how much he would make on his wheat, could fix the price today for delivery in three months, hence know that he had enough money to shell out on the new harvester. On the other side of the trade, the flour company would know exactly how much it was going to have to pay for the wheat. In other words, it was all about risk: both sides could reduce their risk.
Maybe not. You can see how the Philadelphia Betting Shop might serve the same function. A hedge fund that was short treasuries, for example, (expecting interest rates to go up, perhaps because it thinks the economy will overheat) might be hurt if the non-farm payroll number came out too low (implying weak economic activity, hence lower interest rates and higher treasury prices). At the right price, it might be worth it to hedge a little just in case they were wrong. Who would take the other side of the trade? I suppose maybe a company that was preparing to issue bonds next month might want to protect itself against rates going up. All sounds pretty reasonable.
But do we really need it? We pretty much already have as many derivatives as we need to do the job of spreading risk in an economically rational way. (See our post from a couple of days ago: $1.9 trillion a day in FX contracts!). Let's not forget that even when the risk-spreading is economically efficient, it's still a zero sum game. You can't help thinking that this is just another way for one set of nerds to pit their computers against another set of nerds. Each side takes its "management fee". Guess who's the loser?
posted by econoclast at 5:07 PM
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