Wednesday, 12 January 2011

Pricing anomaly

Under New Zealand's MMP system, a party is awarded seats either by winning an electorate or by gaining at least 5% of the popular vote.

Winston Peters heads the New Zealand First Party.

A contract paying $1 in the event Winston Peters is elected to Parliament is trading at $0.36. So there's a 36% chance of Peters making it into Parliament.

A contract paying $0.01 for every percentage point of the popular vote earned by New Zealand First at the next election is trading at $0.06. So traders there reckon New Zealand First will earn 6% of the popular vote.

So, is the vote share market wrong, are the probabilities of different vote outcomes for NZ First crazily skewed (most likely outcome below 5% but a fat right tail), or are traders reckoning on Peters not making Parliament despite NZ First gaining seats? The latter could happen if Peters stands down in favour of someone else (unlikely), doesn't survive to the election (unlikely, unless political rhetoric is even more powerful than folks reckon), or if Peters gets into legal difficulties and is dropped by NZ First or is otherwise barred from entering Parliament.

I've done minor shorting on the vote share contract and am slightly long on NZ First entering Parliament, mostly because I'd hit a few bargains earlier on.

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