5 Things You Should Know About Prediction Markets
With loose regulations and easy access, prediction markets are quickly gaining popularity. You’ve probably seen the ads: Download an app like Kalshi and try to make money by betting on the outcome of real-world events.
It sounds easy. Predict the outcome – in sports markets, geopolitics, finance and more – and income. “Imagine turning your insights and predictions about the future into tangible assets. That’s the reality we offer at Kalshi,” advertises the New York-based company’s website.
That loose regulatory environment and ease of access lead to the speculation of many platforms entering the space. Polymarket is relaunching in the US following a legal ban in January 2022. DraftKings recently announced a “fantastic app” that will feature predictions, and FanDuel has partnered with CME Group to offer FanDuel Predicts, which will reportedly be available in 50 states. Some of the top names from the financial services sector that include predictions include Robinhood, Crypto.com and Coinbase.
With millions of users now using these platforms, which operate almost all over the country (for now), it’s easy for newcomers to overlook some basic things that everyone should understand. But if you’re interested in the prediction markets, it’s important to remember the rules of responsible gambling – even if the industry chooses to avoid that term. Chief among them: Never bet more than you can afford.
Before joining Kalshi or Polymarket, the two most popular services, or signing up for one of their competitors, here are five things you need to know before placing your first bet on the prediction markets:
Understanding contracts and asking prices
In the speculation market, users buy and trade contracts tied to “yes” or “no” outcomes. Each contract is worth $1 if the event occurs and $0 if it does not. Sources or methods to be relied upon to find a solution will be listed on the marketplace page.
For example, at the time of publication on Kalshi, a user can buy the contract of Vice President JD Vance to become the next winner of the presidential election in 2028 for 19 cents, or choose the “no” contract – an option that pays if Vance is not installed as president in January 2029 – for 81 cents. Assuming no payouts, you would need to buy $81 of those “no” contracts to get the $100 payout.
“Prediction markets are more peer-to-peer than sports betting, but the actual performance of the market may be more similar than people think,” said John Holden, a professor of business law at Indiana University.
For each contract, there are bid prices (that is, what buyers offer) and ask prices (that is, what sellers want). In other words, the ask price is what you can buy the contract at any time. Remember that third-party companies often participate in the market, providing financing by bidding at discounts.
“In theory, the prediction market can work like a financial market when you match buyers and sellers in general,” Holden said. “The truth… usually we just buy from the market maker.”
The ask price may have a gap or “spread” (as it’s called legally) from the bid price, similar to the bid-ask spread in the equity markets, which can eat into your profits if you’re not careful. To avoid that, limit orders – such as buying shares – allow users to set their own prices and wait for matching. But limit orders have one major drawback: They can be dangerous during fast events or live action as there is no guarantee that your order will be filled.
Fees and expenses: How prediction markets make money
Like any other form of gambling, the house will have good results. Prediction markets do so by charging fees when contracts are purchased. These trading fees are usually between 1% and 3%, according to Holden.
For example, Kalshi’s regular fee is calculated by the formula where fees = (0.07 x [the number of contracts being traded] x [the price per contract] x (1- [the price per contract]). Don’t worry if that formula is confusing, but review the dollar value of any fees when you trade.
Deposits can also include a small fee that varies depending on the prediction market platform and payment method.
Finally, users should be aware that they may face higher trading costs in low-quality markets due to large spreads. And when the user is going to withdraw money, he can see a warning of “slippage”, which means that the selling price is low because there is not enough trading activity on the other side, which is similar to the lack of law in the stock market.
Market availability forecasting and regulation
Prediction markets are currently available in many states, but they are also being challenged by lawsuits across the country, and some legal experts expect their fate to be decided after reaching the Supreme Court.
“We get new ideas every week,” Holden said. “I would expect a lot of legal wrangling to continue as states and traditional gaming regulators battle the prediction market industry.”
In some cases, betting markets can even be found in 11 states where sports betting is illegal. This is because they are regulated at the federal level by the Commodity Futures Trading Commission, and under the Trump administration, these companies have been allowed to operate despite uncertainty about whether they qualify as commodities.
“There are many states that have sued to prevent these markets from operating within their borders, and in some of these places, the markets have put in what is called geofencing that if you live in a certain area, we will not allow you to trade in these markets,” said Todd Phillips, an assistant professor of law at Georgia State University.
DraftKings Predictions reports some degree of availability in 47 states, for example. Another exception is Ohio, where a judge recently ruled against Kalshi in a sports betting market challenge.
Many states argue that betting markets should be subject to state laws like sports betting sites.
“The reason they use the word ‘contract’ and not ‘gambling’ is for legal reasons,” Phillips said. “It’s important for students to realize that no matter what it’s called, betting that something will or won’t happen—or the outcome of a sports game—and you’re entering into contracts with someone who is smarter than you.”
Are markets safe when there is insider trading?
In February, Kalshi released a blog post detailing the steps he took in two insider trading cases. In another, the fired editor of YouTuber Mr. Beast is said to have traded about $4,000 in markets related to his former manager. Kalshi also said that he opened more than 200 investigations last year.
It is possible that unfair trading continues to go undetected, given how many insiders have access to information before the public can give them an edge. This raises the question: How can individual users trust that they are not buying and selling contracts in a market that may contain an insider or insiders?
“We really have no way of knowing how big this problem could be,” Holden said. “This is one of the biggest questions out there.”
He notes that the financial markets – and the sports betting markets – have experienced many trading scandals within them, and people have continued to invest.
“The same thing is expected here. It is dangerous what is happening with the market system,” he said.
Forecasting market risks
Another recent analysis by Jordan Bender, managing director of Gaming Equity Research at Citizens, found that new users of betting markets generally lose money faster than users of sports betting apps like DraftKings. That’s all the more reason to be cautious, given that sports betting can be a financial risk, even affecting credit scores in places where it’s legalized.
Kalshi offers services to users to reduce risk, including deposit limits and trading breaks. However, critics of prediction markets argue that it is unwise for consumers to use them at this time.
“Normal people shouldn’t be trading these at all,” Phillips said. “You’re trading against financial institutions that have more sophisticated computer models than you. And like gambling, you’re going to lose.”
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