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EconGrapher (< 20)

March 2010

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US Housing and Confidence Review

March 30, 2010 – Comments (0) | RELATED TICKERS: SPX , QQQ

Ho-hum figures in US house prices and consumer confidence showed continued stabilization, and revealed vulnerabilities to the US economic recovery. In this update we look at the S&P Case Shiller house prices index numbers for January, and the Conference Board Consumer Confidence numbers for March. Both stats showed very slight improvements for their respective reported periods, but showed little cause for excitement really.

The Case-Shiller 20 City Composite Index came in virtually flat at 145.34 on a seasonally adjusted basis, up 0.3% from December and down -0.7% from January 2009. On a city by city basis the picture was relatively mixed with the top 3 year on year gains in San Francisco (9%), San Diego (5.9%), Washington (3.5%); with the worst 3 falls in Las Vegas (-17.4%), Detroit (-7.4%), and Tampa (-7.4%).

The figure added to a picture of temporary improvement driven by a drop off in construction, low interest rates, and government incentives. However it is likely that this has just been window of improvement, and there is a chance that prices will - best case move sideways - or see further falls as interest rates inevitably start climbing again; foreclosures rise, and unemployment remains persistently high. Housing is still a key vulnerability for the US economic recovery.  [more]

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Economic Calendar - In the week ahead the US will take the spotlight...

March 27, 2010 – Comments (0) | RELATED TICKERS: SPX , QQQ

I wasn't able to post the table but here's the comments for what's up in the week starting 29 March. For the full economic calendar see the original here: http://www.econgrapher.com/29mar-calendar.html  [more]

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New Zealand Economic Recovery Strengthens

March 25, 2010 – Comments (0)

The New Zealand economic recovery strengthened in the fourth quarter of 2009; growing 0.8% compared to the September quarter. The result matched consensus and beat the previous result of a revised 0.3%, marking the 3rd quarter of positive growth and placing GDP into positive territory on an year on year basis at 0.4%.

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New Zealand Current Account Deficit Set to Widen

March 24, 2010 – Comments (0)

New Zealand's current account data surprised some with the current account deficit for the year through December 2009 coming in at -NZ$5.47 billion versus consensus estimates of -NZ$3.33 billion, and the September quarter figure of -NZ$5.9 billion. The comparable figure in December 2008 was -NZ$15.97 billion.

Seasonally adjusted the current account balance during the December quarter was -NZ$3.11 billion, versus the small positive of NZ$0.04 billion in the September quarter of 2009.

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US Retail Sales Break the Ice

March 12, 2010 – Comments (1) | RELATED TICKERS: SPX

US Retail Sales surprised in February, beating concerns about the affects of the cold snap and icy weather and a poor labour market; coming in above consensus. In February 2010 retail sales climbed 0.3% month on month to US$355,546 million, against consensus estimates for a fall of -0.2% and January's growth rate of 0.5%.

Core retail sales (less autos) also beat consensus with 0.8% against an expected 0.0%. Headline and core retail sales were up 3.5% and 3.7% respectively. The winning categories were electronics & appliances stores, miscellaneous store retailers, food & beverages, and sporting goods, hobby, book & music stores.  [more]

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China International Trade Review

March 10, 2010 – Comments (0)

China surprised to the upside again when it reported its trade figures on Wednesday. Exports were up 46% year over year to US$94.8 billion against consensus estimates for a 38% rise. Imports rose 45% year on year to US$87.2 billion against consensus forecasts, also for 38%.

As the chart below illustrates, the figures show a slight pull back in the strong bounce-back China had been seeing. However much of this pull back is related to the Chinese new year holidays (Chinese new year, or spring festival, fell on the 14th of February this year). It is likely that trade stats will show further improvement in the March numbers as the journey back to trend continues.  [more]

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Top 5 Graphs of the Week - 6 March 2010

March 05, 2010 – Comments (0)

This week we look at Canadian GDP, Australian GDP, US ISM indices on manufacturing and non-manufacturing, and a wrap up of some of the monetary policy decisions announced this week; including the tightening decisions in Australia and Malaysia.

1. Canada GDP
Canada made further progress in its economic recovery in Q4 2009, recording 1.2% growth q/q (or if you insist on the questionable practice of annualizing results then it was 5%), against consensus forecasts of 1%. On an annual rate the decline improved to only -1.2%. The annualized rate of 5% was above the Bank of Canada's forecast for 3.3% growth, and this has lead some to speculate that the Bank of Canada may break its commitment to keep interest rates on hold at 0.25% until the end of the 2nd quarter of 2010. This remains to be seen, but there are also other measures being taken in Canada e.g. the government aspiring to be the first G7 country to break its fiscal deficit. All up, this is a reasonably healthy economy here...

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Playing The Prediction Markets

March 04, 2010 – Comments (3)

This article provides an introduction to both utilising implicit predictions in binary options, as well as some pointers on trading. Prediction markets provide an interesting venue for gauging the probability of an event based on the trading of both informed and uninformed participants.

As an investor, trader or someone with a general interest in things like economics related events you can use predict markets to help get an idea of the probability of the event occurring. You can then take it a step further and take potentially profitable positions if your view on the probability contrasts with the markets’ view of the probability.

Prediction Markets and Binary Options
So what are prediction markets? Prediction markets generally involve the trading of binary options. You may know what options are (the right but not the obligation to purchase a given thing), and the benefits of using them (nonlinear payoff profile i.e. fixed premium/cost vs variable profit). But binary options work a little differently, the standard binary option pays $1 if a specified event occurs by or on a specified date – otherwise it pays $0.

For example ipredict has a contract on the US Fed increasing interest rates by November (here): “FED.INCR.NOV10”. This contract pays $1 if the Fed increases interest rates on or before the 4th of November 2010.

You can both sell and buy binary options. So using the previous example, if you believe the probability of the US Fed increasing rates on or before the 4th of November is greater than 0 then you would buy contracts (e.g. if you bought a contract at $0.50 and the Fed increased rates before expiry you would receive $1).

Likewise if you believed that there was no way the Fed would lift rates this year then you could sell short the contract. So for example if it were trading at $0.50 then you would sell a contract for $0.50 and on expiry if the event did not happen you would get to keep the $0.50. But of course the converse is true, if the event did occur then you would have to pay $1 to the holder of the contract, but this would be offset by the $0.50 you sold it for.

How to Read the Market Predictions
So by now you probably can already answer this question, you gauge probabilities based on the price. If the price is $0.50 then on average the market is pricing in a 50% chance of the outcome.

To look at an example, on ipredict there is a suite of contracts on the RBNZ (Reserve Bank of New Zealand) interest rate decision on the 11th of March. At the time of writing the approximate prices of the contracts were as follows:

OCR.NC.11MAR10 Price $0.9650 …therefore probability = 96.5%
OCR.25.11MAR10 Price $0.0300 …therefore probability = 3.0%
OCR.OTH.11MAR10 Price $0.0050 …therefore probability = 0.5%

So at the moment you can see the market is overwhelmingly expecting no change to the Official Cash Rate on the 11th of March. You can see how the probability aspect works with this suite too by noting that all outcomes (all mutually exclusive and exhaustive) add up to 100%.

How to Make Money Playing Prediction Markets
So now, down to business! I bet most of you have already started plotting how to make money, but this section sets out the basic strategies for making money by playing the prediction markets.

1. Positioning
The first way is what I call positioning. Basically you find contracts where you’ve got a strong opinion on the outcome and position yourself to profit from that view. For example with the Fed rate increase contract, if you believe there’s about a 70% chance of it happening then you would buy it all the way up to $0.70 (possibly higher).

The key things to think about are: a) risk and reward profile e.g. if the price is $0.70 then your profit if it happens is $0.30 ($1-$0.70=$0.30), but if it doesn’t happen you lose the $0.70 you paid to buy the contract. This is a sub-1 trade; the ratio of profit divided by loss is 0.43. When you play sub-1 trades you need to get it right to make money.

A 10+ (ratio) trade on the other hand gives you a higher margin for error, but at the same time is the result of the market ascribing the outcome a low probability. For example if the price is $0.05 the proftit-loss ratio is 20, so in trading for an expected breakeven you could afford to be wrong 19 times out of 20 if the position size is the same on all trades. But again, the probability according to the market is 5% so you need to study up and try and foresee what the market doesn’t.

2. Trading
Another way of making money is utilising the fact that prices are determined in a liquid market with at least some informed participants. So as new information is revealed the price will change. For example if the price of the US fed rate increase contract is like $0.20, and then an inflation report comes out showing a huge upside surprise then the price could rise to, just for example, $0.30. In that case you could close out your position at a $0.10 profit.

You can play these sort of trades quite speculatively around interest rate announcements e.g. if you have a tightening bias you could buy a later contract e.g. April, as a play on any hints for a sooner increase coming from a sooner interest rate announcement. Anyway there are all sorts of usual market trading strategies you can use for actively buying and selling binary options.

3. Arbitrage
Sometimes arbitrage opportunities will open up in suites of contracts or between similar contracts. There will be times when you get quasi-arbitrage from contracts that have very similar payoff profiles, but might be structured slightly differently.

Anyway the easy way to arbitrage between contracts where there is more than one out come and you have mutually exclusive and exhaustive contracts is as follows:
a) Bid side: add up the bids, if the total is greater than $1.00 then sell an equal amount of all of the contracts.
b) Ask side: add up all the asks, if the total is less than $1.00 then buy equal amounts of all contracts in the suite.

Example: a suite of 3 contracts has the “ask” as follows; $0.9005, $0.0890, $0.0075, the total of the “asks” is $0.9970, so you could buy all the contracts for $0.9970 and receive $1 at expiry/event date, thereby netting $0.0030 (or $0.30 for 10 contracts, or $3.00 for 100 contracts, etc – to illustrate).

Summary
So there you have it, you can use prediction markets (aka binary options) to get a reading on the views of a market of informed and uninformed participants of certain events happening. But more importantly you can use these markets and instruments to make profits by taking positions on certain outcomes you have knowledge about, or by actively trading in the market, or even through arbitrage.


Article Source: http://www.econgrapher.com/binaryoptions.html


Notes:
I have only used this provider: www.ipredict.co.nz But I am aware that there are other providers out there, and a quick google search should reveal them. Also note this is not to be construed or relied upon as advice. I have no association with ipredict, but I do trade on the platform and from time to time I do take long and short positions in contracts that trade on that platform.   [more]

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