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US election betting boom in decentralised prediction market

The US presidential election and major sporting events have proved fertile ground for decentralised prediction markets, one of the fastest growing crypto sectors of 2024. 

Trading volumes climbed nearly 6x in the third quarter of the year, but the highly anticipated US election has pushed volumes beyond USD 2.1 billion in October alone. This is 50 percent more than the entire third quarter, led by the dominant player Polymarket. 

But there are a couple of hovering grey clouds that could dampen the current optimism for prediction markets: the threat of a US regulatory backlash and the possibility of a market correction once the presidential elections are over. 

So, what are prediction markets, why do they matter and why are they particularly well-suited to decentralised protocols? 

The basics 

Prediction markets of various types have been around for centuries, allowing groups of people to express their view on the likely outcome of future events, such as the identity of a new Pope. They offer real-time insight into shifting public opinion on the likely result of ambiguous events.  

Modern day prediction markets have similar attributes to futures contracts but tend to forecast what the future will look like rather than the future price of individual assets. The range of events that prediction markets cover is diverse and sometimes controversial.   

Markets try to determine the likelihood of presidential candidates winning the election, saying particular buzzwords during speeches or even being assassinated. Other markets have tracked the Olympic Games, the EURO football championships, who will win the most Oscars, the likelihood of weather events or scientific discoveries and a host of other subjects. 

Participants place bets on the likely outcome of events, typically by buying ‘yes’ or ‘no’ shares of their preferred outcome. Once the event has been decided, each winning share pays out USD 1 and the losing shares nothing. 

Backing up predictions by placing bets reduces the incentive (theoretically at least) to skew the market with bogus predictions or mere wishful thinking. In any event, outlier bets can always be smoothed out if the market contains large numbers of participants, who can also bring a wider and more diverse range of knowledge to the event under prediction. 

Unlike betting odds, which are set in stone by a bookmaker, prediction markets are more dynamic, reflecting the changing opinion of the crowd. For this reason, they offer greater value than simply financialising opinion. 

A large, well-functioning market reflects the collective wisdom of the crowd by pooling the diverse know-how of participants. Some economists believe prediction markets paint a more accurate picture of future reality than opinion polls, which often rely on a narrower base of public opinion. 

This is why the Iowa Electronic Markets has been run by the University of Iowa as an educational tool to study elections since 1988. The US Department of Defence once toyed with the idea of a predictions market that would harness public opinion to determine the likely outcome of various geopolitical tensions. But it was shelved after political outcry that it would amount to gamifying conflict and terrorism. 

The role of decentralisation 

It should come as no surprise that decentralised finance (DeFi) has latched onto prediction markets because blockchain technology itself is based on harnessing the collective will and actions of communities – such as securing a blockchain network through community-driven consensus. 

Decentralisation offers an antidote to concerns of prediction markets being manipulated by insiders who control the centralised protocols. 

Delegating control of markets to automated market makers run by smart contracts mitigates this particular risk. They are supported by oracles that feed real-world data into the smart contract. Deploying a network of unconnected oracles to cross-verify data, or using decentralised oracles, also dampens the risk of manipulated data entering the market. Oracles can also function as a decentralised dispute resolution mechanism if the result of the market is contested. 

Permissionless markets also open the doors to a far greater array of participants. By removing central gatekeepers, decentralised markets allow anyone to place a bet or open a market 24/7.  

Augur and Gnosis were among the first decentralised prediction markets to be built on blockchains, but they have been eclipsed by Polymarket as the dominant decentralised trading platform.   

Source: The Block  

Polymarket has seen a 30x increase in monthly active traders and trading volumes rocket to over USD 2.1 billion in October alone. Open interest has also hit an all-time high of USD 323 million.  

The first decentralised prediction markets were built directly on the Ethereum blockchain. But other blockchains are also getting in on the act, as evidenced by Polymarket and PancakeSwap’s prediction market being built on Layer 2 protocols Polygon and Arbitrum while BET has opted for Solana.  

This trend indicates that other decentralised prediction markets might be on their way. There are also rumours that Polymarket is contemplating the launch of its own token, a move that would offer opportunities for investors who believe in the future of this sector. 

Boom or bubble? 

Some decentralised prediction markets have aroused a certain amount of controversy. For instance, Donald Trump is shown to be the clear favourite as next US president on Polymarket, while practically every other poll places each candidate neck-and-neck. 

This has led to speculation that a wealthy individual has skewed Polymarket with a series of outsized bets using different usernames. If this is true, then it would add fuel to complaints that prediction markets could be used to manipulate elections and interfere with the democratic process. 

It would also skewer the theory that the risk of losing money removes the incentive to place insincere bets. 

Prediction markets are strictly controlled in the US, with the Commodity Futures Trading Commission (CFTC) shutting down or launching legal proceedings against any operation it deems to abuse derivatives trading rules. The CFTC has already fined Polymarket and issued a cease-and-desist order in the US, and still has a close eye on the platform’s activities. The regulator is also engaged in a long-running legal tussle with Kalshi, which also issues so-called ‘event contracts’.  

The CFTC also wants to ban prediction markets on topics that are “contrary to the public interest”, such as terrorism, assassinations, warfare and illegal activities. 

However, Kalshi recently secured a major legal victory when a federal judge ruled it could proceed with its US election markets, starting with congressional bets. Meanwhile, Robinhood launched its US election market through its subsidiary Robinhood Derivatives, allowing US users to bet on the election outcome through CTFC-regulated ForecastEX. 

Conclusion remarks 

There is little doubt that the prediction market sector is currently riding high on the intense interest generated by the US presidential election.  

Once the election is over, it will be interesting to see if demand for these markets persist at such a high level. There appears to be no obvious alternative drivers to sustain such large market volumes in the long run. 

If the prediction markets sector faces a significant correction, it might well clear out all but the strongest prediction markets that are currently booming. 

 ENDS 

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