A Conspiracy Theory: Bush Contracts

by | Sep 22, 2004

See if you can guess which stock I’m talking about. This stock topped out in early January at 75. It steadily declined all year, hitting bottom at 49 on Aug. 12. After that, it rallied magnificently. On Monday it was trading at 65. Then something very strange happened. Mid-day Monday this stock was attacked by […]

See if you can guess which stock I’m talking about.

This stock topped out in early January at 75. It steadily declined all year, hitting bottom at 49 on Aug. 12. After that, it rallied magnificently. On Monday it was trading at 65.

Then something very strange happened.

Mid-day Monday this stock was attacked by sellers. The stock had been the subject of various scares and scandals in the past — but on this day there was no news to explain why it was being hit by wave after wave of selling, racking up its highest trading volume of the year. Within an hour the stock had been hammered almost all the way back to lows, trading as low as 49.6 at the worst of it, down 22.5% on the day.

Then, even more suddenly, the selling stopped. Within about a half hour the stock had recovered all the way back up to 63. It closed the day at 63.5, down a half point from the previous day’s close.

But the story isn’t quite over. The punch line is that by Thursday, the stock had climbed to as high as 70. Whoever did all that selling on Monday is looking pretty stupid.

Have you guessed? I’m not talking about a stock at all. I’m talking about our president, George W. Bush.

Specifically, I’m talking about the futures contracts on Bush’s re-election probability that trade online at Tradesports.com. I’ve written about this exciting futures market many times here, starting in February.

To recap, here’s how the Bush contracts work. When the election results are finalized, the contracts will end up either at 100 or zero — 100 if Bush wins, and zero if he loses. In the meantime, the contracts trade at whatever price the marketplace sets, just like any other futures contracts. When the Bush contract was trading at 75 in early January, that indicates the market is giving him a 75% chance of being re-elected. On Aug. 12, at the lows at 49, the market was giving him only a 49% chance of winning.

All year the markets have tracked the Bush contracts, like a duckling waddling behind its mother. After the Bush contract topped out at 75 in January, it was just a matter of days until the Nasdaq topped out, too. The S&P followed a couple weeks later. When the Bush contract made its lows for the year at 49 on Aug. 12, that was the same day that the S&P 500 and the Nasdaq made their lows, too. They’ve all been rising together ever since. We can argue about why, but clearly the stock market acts like it is hoping Bush gets re-elected.

So what happened on Monday to knock the Bush contract practically all the way back down to 49 in a single hour — and then why did it recover all its losses in just a half hour? We may never know for sure, but I’ve got a couple of pretty good ideas.

One possibility is a “speculative attack.” That’s what you call it when speculators swamp a market with buy or sell orders. A classic example is when George Soros massively shorted the British pound in 1992. The Bank of England spent billions trying to support the currency against Soros’s onslaught. When it finally gave in, England was forced to withdraw from the European Exchange Rate Mechanism. Soros earned more than a billion dollars on this attack, and became known as “the man who broke the Bank of England.” He did something similar in 1997 against the Malaysia’s currency, the ringgit, a move that likely precipitated what is now called “the Asian crisis.” (There are two sides to everything, of course. Some investigators think that hedge fund operators like Soros had nothing to do with these events. But I don’t see history that way.)

It could be that someone was trying to do the same thing to the Bush contract. Beginning with my coverage of Tradesports’ political contracts right here in SmartMoney.com, the Bush contract has become a widely watched leading indicator of electoral trends. Every trader I know on Wall Street watches it — and hardly a day goes by now that it isn’t mentioned in the media. What better way to throw a chill into George Bush’s sudden surge of popularity over the last several weeks than to make it seem as though this leading indicator has violently reversed?

The chief executive of Dublin-based Tradesports, John Delaney, doesn’t think it was a speculative attack. He told me, “We don’t think it was an attempt to create a signaling effect. If it was, it was wholly a failure.”

No question about that: It was a failure. After 12,000 contracts were sold in a single hour — an enormous volume for this tiny new market — prices returned to where they had originally been just a half hour later. And it didn’t take a lot of volume to do it. The hundreds of regular small traders who regularly trade on Tradesports simply recognized a bargain, and quickly restored prices back where they belonged.

What else could explain it? Perhaps it’s as simple as a guy walking into the sports betting parlor at the Mirage in Las Vegas, and plopping down $100,000 on Kerry. How would the casino hedge its bet? They’d lay it off on TradeSports. Assuming they quoted bad enough odds to the bettor, they could make a tidy riskless profit even by selling the Bush contract all the way down to 49.

Either way, this event stands as a remarkable testimonial to the robustness and resiliency of a brand new and still small marketplace. This was Tradesports’ first big test — its “Black Monday” — and it came through with flying colors.

And it shows that small traders who really understand what stocks are worth don’t have to let themselves get pushed around by a market bully. Do you ever think that stocks you own are being whacked around by the big hedge funds? Well, remember what happened to the Bush contract on Monday, and see it as an opportunity. When your stocks get out of line, just buy more and be patient.

The above is an “Ahead of the Curve” column published September 17, 2004 on SmartMoney.com, where Luskin is a Contributing Editor.

Don Luskin is Chief Investment Officer for Trend Macrolytics, an economics research and consulting service providing exclusive market-focused, real-time analysis to the institutional investment community. You can visit the weblog of his forthcoming book ‘The Conspiracy to Keep You Poor and Stupid’ at www.poorandstupid.com. He is also a contributing writer to SmartMoney.com.

The views expressed above represent those of the author and do not necessarily represent the views of the editors and publishers of Capitalism Magazine. Capitalism Magazine sometimes publishes articles we disagree with because we think the article provides information, or a contrasting point of view, that may be of value to our readers.

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