Prediction Markets and Bitcoin

Prediction Markets and Bitcoin
2021-04-16  3:39 ` ZmnSCPxj
  
From: Prayank @ 2021-04-07 19:07 UTC (permalink / raw)
  To: Bitcoin Dev

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Positives:

You need money to participate even though your position size may not matter if really small based on liquidity and volume.
Useful information if looking at overall sentiments especially traders
Noise filter because its not same as trolling on social media
Opportunity for some people to make money
Entertainment and something new to discuss or confirm bias

Negatives:

You need money to participate. "Full nodes enforce consensus rules" becomes a meme. Full nodes will still enforce consensus rules but some full nodes are being influenced by people with money which can be anything not necessarily bitcoin.
Information that may not be useful for everyone.
The exchanges who have created such markets in past and the traders involved know how to manipulate illiquid markets at least for a short time period. And sometimes "markets can remain irrational longer than you can remain solvent". 
If such markets affect Bitcoin development in any way, it will be great opportunity for governments to attack Bitcoin. Example: Consider we have a soft fork or hard fork for confidential transaction on-chain in future, if someone is able to find a secure way to implement it. All the governments that love to spy will have some issues with it and won't be the first time if they participate in such markets indirectly to manipulate or start some investigation against exchanges involved or something else.
Focus which should have been on improving Bitcoin will now shift to futures markets and their involvement in Bitcoin.

I think prediction markets or such tokens might help in adding to the information we already have however they don't decide or replace anything. Bitcoin development should impact such markets and not the other way around.  Nobody can stop markets from betting on something related to Bitcoin and it can even be done using P2P exchanges like HodlHodl: https://predictions.hodlhodl.com or create something new with oracles which can be implemented using DLC: https://github.com/discreetlogcontracts/dlcspecs 

Not everyone is a trader or interested to take risk in such markets even if a Bitcoin user from years, lot of transactions, contributions and some opinion on Taproot based on things that are publicly available to everyone but scattered. In past we had things that made some sense for prediction markets like 2x and Bcash but right now nobody has issues with Taproot and even the best traders won't be aware of all the technical details about Bitcoin development to predict something related to activation mechanism. 

If the point of using prediction markets is to filter noise or spam then maybe we can have one chatroom that requires some sats to enter and pay some sats for each post. We will have better information here and sats can be used to donate to devs who review PRs related to Taproot. 
-- 
 Prayank

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2021-04-07 19:07 [bitcoin-dev] Prediction Markets and Bitcoin Prayank

  2021-05-11  9:05   ` Prayank
  
From: ZmnSCPxj @ 2021-04-16  3:39 UTC (permalink / raw)
  To: Prayank, Bitcoin Protocol Discussion

Good morning Prayank,


> I think prediction markets or such tokens might help in adding to the information we already have however they don't decide or replace anything. Bitcoin development should impact such markets and not the other way around. 

"Human behavior is economic behavior. The particulars may vary, but competition for limited resources remains a constant. Need as well as greed have followed us to the stars, and the rewards of wealth still await those wise enough to recognize this deep thrumming of our common pulse. " -- CEO Nwabudike Morgan, "The Centauri Monopoly", *Sid Meier's Alpha Centauri*

This is the tension between the necessary freedom of discovering strange new techniques, and the exigencies of life, where every joule of negentropy is a carefully measured resource.

Of course development must be free to do what is best technically, and to experiment and see what other techniques are possible or workable.
Thus the market must follow development.

Of course the people ultimately funding the development must impose what direction that development goes to, after all, it is their money that is being modified.
Thus development must follow the market.

It is the negotiation of the two that is difficult.

Overall, I think a lot of the developer arguments are reasonably clear --- what is unclear is what the market wants, thus I think prediction markets are something that are needed in order for the negotiation between these two aspects to advance.

Regards,
ZmnSCPxj


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2021-04-16  3:39 ` ZmnSCPxj

  2021-05-18 12:15     ` ZmnSCPxj
  
From: Prayank @ 2021-05-11  9:05 UTC (permalink / raw)
  To: ZmnSCPxj;  Bitcoin Protocol Discussion

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Good morning ZmnSCPxj,

This will be a long email because I want to cover all the things and difficult to express them in few sentences or respond to the tweets about use of futures markets in Bitcoin.

TL;DR: Prediction markets or futures markets can be helpful in collecting more information and hedging however, if used incorrectly can become a reason for failure of Bitcoin.

===============================================================

> Of course development must be free to do what is best technically, and to experiment and see what other techniques are possible or workable. Thus the market must follow development.

Agree.

> Of course the people ultimately funding the development must impose what direction that development goes to, after all, it is their money that is being modified. Thus development must follow the market.

Disagree. 

1.A position in a futures market about possible outcomes of an event is not equivalent to funding Bitcoin development.

2.People or organizations funding Bitcoin developers or projects can always have some opinion, influence and disagreements. They can never impose or force something at least in Bitcoin protocol.

> what is unclear is what the market wants, thus I think prediction markets are something that are needed in order for the negotiation

Partially agree. Yes, its not clear what the market wants and sometimes its unclear even after expiry of futures contract because two people can look at the same data and share different analysis. Prediction markets are not needed for negotiation but can be helpful sometimes.

===============================================================

3 things I mentioned in TL;DR: Hedging, Collecting information and Incorrect usage

1.Hedging:
Futures market can be useful in hedging few things in Bitcoin. Jack Mallers had shared the idea of using futures markets for 'fees' in Lightning Conference: https://www.youtube.com/watch?v=rBCG0btUlTw

Summary of the presentation(Hedging the chain): Derivatives contracts are used to hedge financial exposure.  Projects and businesses that use bitcoin transactions regularly prefer paying less transaction fees. Miners revenue increases if transaction fees goes up and subsidy is reduced after every 210,000 blocks so miners prefer high transaction fees or more fees per block.

Examples:

A)Zap expects $1000/month on-chain operating costs. Longs(1x) on-chain fee futures. If bitcoin transaction fees for the month costs more than $1000, the loss will be covered with profits from long position. If long position is in loss because fees are low, it will be covered by paying less than $1000 for the month in transaction fees.

Miner expects $1000/month on-chain fee profits. Shorts(1x) on-chain fee futures. If short position is in loss because fees go up, loss will be covered with more profits from mining. If profits are less from mining because fees was low, loss will be covered with profits in short position,

B)Hashrate Derivatives: https://onthebrink-podcast.com/tim-kelly-bitooda/

C)Consider there is a futures contract for Taproot soft fork. Alice has done enough research and thinks Taproot will be activated. She opens a long position. Bob thinks miners signaling will not reach the required threshold, so Taproot will not be activated with MASF. Bob opens a short position. Carol is working on a project that will work better with taproot activated. She is not interested in speculating but wants to hedge the financial exposure. Carol expects her project will receive $10000 funding and make $1000 profits per month. She opens a short position (1x) which will cover the loss incase taproot is not activated. If taproot is not activated, UASF can take another year which will delay her funding and profits but she can cover this loss with the profits from short position. This futures contract will expire on 2021-08-11 00:00 UTC and settlement is based on multiple oracles that broadcast results for `getblockchaininfo` regularly for their nodes. Start date can be before or after signaling. Trade-offs: If the futures contract starts before signaling, miners are likely to follow the market (not necessary). If the futures contract starts after a week of signaling, traders can use this information while opening a position. In this example, futures contract starts from 2021-05-01 00:00 UTC.

Similarly if we improve privacy in Bitcoin with a soft fork that includes confidential transactions, Chainalysis can use such futures contract to open a long position because it affects their business. If CT-SF is activated, they can cover some loss with the profits from long position. 

2.Collecting more information:
a - Bitcoin Dev Mailing List
b - Different PRs: GitHub repository for Bitcoin Core and other implementations
c - IRC channels
d - Bitcoin Stackexchange (If not sure about some technical things involved in a soft fork)
e - Reddit posts
f - Twitter (Not the best place to discuss anything important but used a lot so consider it as a source)
g- Opinion of mining pools: 2nd column in the table https://taprootactivation.com/
h- Bitcoin meetups
i - Bitcoin podcasts
k- Interacting with different people involved in exchanges(centralized and DEX), wallets, merchants, layer 2 projects, darknet forums, journalists and activists that use bitcoin for censorship resistant payments, people in countries where local currency cannot be used to store value long term, new developers interested to build Bitcoin projects, people and organizations funding different Bitcoin projects or devs etc.
l - Miners signaling: https://taproot.watch/ (This is not voting, it represents "readiness")
m-Futures market using P2P derivatives: https://github.com/p2pderivatives/p2pderivatives-client

I don't think futures market in this case will be able to aggregate and reflect all available information so everything mentioned above has its own importance which should be considered. Maybe I missed few things.

3.Incorrect usage of futures markets in Bitcoin and other issues:

Issues and few examples:

Incentives: If you create a futures market to predict if someone is alive or not, there can always be someone trying to exploit it by betting on death and kill the person before expiry of futures contract. Similarly, miners can manipulate fees in short term and affect the futures market suggested by Jack Mallers.

Legality: It may not be possible for everyone to participate in such markets or some people may avoid because of laws in their country.

Knowledge: You need more than just money and click on a button to understand changes proposed in a BIP. Not everyone can understand the technical things involved. Due to this lack of knowledge, the crowd can sometimes be wrong.

Volume and Liquidity: Thin orderbooks and low trading volumes can be manipulated easily.

Prediction market inaccuracies:

-Brexit
-2016 US Presidential Elections
-In 2004 presidential markets a single trader made a series of large investments in an apparent attempt to make one candidate appear stronger (This manipulation was for short term but markets can remain irrational longer than you can remain solvent)
-Finding weapons of mass destruction in Iraq in 2003
-Nomination of John Roberts to the U.S. Supreme Court in 2005

A)We don't have enough sample size to conclude anything about use of futures markets for Bitcoin soft forks in past.

B)Futures markets cannot be used alone to 'decide' 'things in Bitcoin by ignoring everything else. Example: A soft fork is proposed as BIP. Code to implement is reviewed. Most users agree with the improvements. Mining pools, exchanges, merchants, different projects, other businesses have no issues. Miners signaling in first week looks positive. Futures market is uncertain and this uncertainty is reflected in signaling for sometime. People who are against UASF think Bitcoin doesn't need any improvements. Miners signaling was more than 70% but never reach the threshold and soft fork is not activated. Any discussions about UASF are termed as anti-Bitcoin by few devs because "markets".  This soft fork could have improved privacy and add more features. However, we ignore everything and respond with "ossification" meme or something else on Twitter when someone asks for basic improvements in Bitcoin.

Futures markets should exist and nobody can stop people from participating in such markets however we should be careful in using them for Bitcoin.

-- 
 Prayank

Apr 16, 2021, 09:09 by ZmnSCPxj@protonmail•com:

> Good morning Prayank,
>
>
>> I think prediction markets or such tokens might help in adding to the information we already have however they don't decide or replace anything. Bitcoin development should impact such markets and not the other way around. 
>>
>
> "Human behavior is economic behavior. The particulars may vary, but competition for limited resources remains a constant. Need as well as greed have followed us to the stars, and the rewards of wealth still await those wise enough to recognize this deep thrumming of our common pulse. " -- CEO Nwabudike Morgan, "The Centauri Monopoly", *Sid Meier's Alpha Centauri*
>
> This is the tension between the necessary freedom of discovering strange new techniques, and the exigencies of life, where every joule of negentropy is a carefully measured resource.
>
> Of course development must be free to do what is best technically, and to experiment and see what other techniques are possible or workable.
> Thus the market must follow development.
>
> Of course the people ultimately funding the development must impose what direction that development goes to, after all, it is their money that is being modified.
> Thus development must follow the market.
>
> It is the negotiation of the two that is difficult.
>
> Overall, I think a lot of the developer arguments are reasonably clear --- what is unclear is what the market wants, thus I think prediction markets are something that are needed in order for the negotiation between these two aspects to advance.
>
> Regards,
> ZmnSCPxj
>


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2021-05-11  9:05   ` Prayank

  
From: ZmnSCPxj @ 2021-05-18 12:15 UTC (permalink / raw)
  To: Prayank;  Bitcoin Protocol Discussion

Good morning Prayank,

>
> > Of course the people ultimately funding the development must impose what direction that development goes to, after all, it is their money that is being modified. Thus development must follow the market.
>
> Disagree. 
>
> 1.A position in a futures market about possible outcomes of an event is not equivalent to funding Bitcoin development.
>
> 2.People or organizations funding Bitcoin developers or projects can always have some opinion, influence and disagreements. They can never impose or force something at least in Bitcoin protocol.

Sorry for the late reply.

I expect that many Bitcoin developers have a nontrivial amount of their life savings in Bitcoin.

Any change in Bitcoin price represents a significant change in the value of these life savings.

A position in a futures market represents a prediction by the one taking the position that they expect the price of Bitcoin to change in a particular direction, possibly based on some condition, including the direction where development goes.

This signal then represents an implicit threat ("if Bitcoin goes against this position, I will liquidate my Bitcoin and drop the Bitcoin price") which can be sufficient to "fund" or "de-fund" developers who have a significant stake in Bitcoin.




> I don't think futures market in this case will be able to aggregate and reflect all available information so everything mentioned above has its own importance which should be considered. Maybe I missed few things.

*Some* information > *No* information

>
> 3.Incorrect usage of futures markets in Bitcoin and other issues:

Well, yes, this is the hard part, sigh.


Regards,
ZmnSCPxj


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