Why prediction markets are thriving – and facing scrutiny

Amna Nawaz:

Platforms that let you bet on the outcomes of future events have seen explosive growth recently.

Our economics correspondent, Paul Solman, explains how so-called prediction markets work and why they're so popular and controversial.

Paul Solman:

These days, you can pretty much bet anywhere, any time, on anything, like a word Trevor Noah will say on camera.

Trevor Noah, Comedian:

Potato. If you had me saying potato on Polymarket, you just made a ton of money.

Paul Solman:

That was a joke, no payoff for potato. But people were betting on what words would be said at the Grammys, not unlike betting on the weather.

Man:

According to the prediction markets, at least the chance that New York City gets over six inches of snow, we're talking 51 percent chance.

Paul Solman:

And get this, if Cardi B would perform in Bad Bunny's Super Bowl halftime extravaganza. As to whether this was a performance was hotly disputed by bettors yes and no.

Now, prediction markets are hardly new.

Yesha Yadav, Vanderbilt University Law School:

Prediction markets have been around since the 16th century, much more recently since around 1988, with the Iowa Electronic Markets.

Justin Wolfers, University of Michigan: We had big political prediction markets running literally on the curb of Wall Street about elections back in the late 1800s.

Paul Solman:

That was then, but this is now.

Yesha Yadav:

Today's prediction markets are a completely different game. One can essentially take positions across a host of different questions, including, but definitely not limited to politics. Sports is by far the major category that is currently looked at, but certainly things like Oscars, who's going to be next Federal Reserve chair.

So it's really tapping into this appetite to grab people's attention, to do so in a way that is heavily influenced by social media. So that has really resulted in a mass appeal in a way that prediction markets just didn't have before.

Paul Solman:

Wagering has skyrocketed on two dominant platforms, Polymarket, which takes its bets in cryptocurrency, and Kalshi. In the week leading up to the Super Bowl, trading volume on the two platforms was almost $5 billion.

How does it work? To wager, users by a yes or a no event contract.

Rajiv Sethi, Barnard College, Columbia University:

It's really a bet on whether something is going to happen or not happen. And just like stock markets, you have two sides to a transaction. There's one side betting yes, one side betting no.

Paul Solman:

Economist Rajiv Sethi has an example.

Rajiv Sethi:

Who's going to get control of the House of Representatives during the midterms?

Paul Solman:

To bet on, say, the Democratic Party taking control.

Rajiv Sethi:

The price on the Polymarket is about 82 cents. So what that means is that somebody bought the yes side of that contract for 82 cents and somebody bought the no side of that contract for 18 cents. If the Democrats do retake the House during the midterms, the yes side gets the dollar, otherwise the no-side.

Paul Solman:

Now, to market aficionados, there's value in seeing what bettor do. It's often called the wisdom of crowds.

Yesha Yadav:

They actually put their money where their mouth is. And that means that the bets that are taken on these prediction markets tend to have some pretty informative content.

Justin Wolfers:

What this does is it makes the information embedded that's already being traded transparent, so that we can all use it. When I see that there's a 22 percent chance of J.D. Vance becoming the next president, that's actually really useful information. I can start to plan for what sorts of regulations my business might expect and things like that.

Paul Solman:

In the run-up to the 2024 presidential election, polls showed Kamala Harris and Donald Trump tied. But the markets didn't.

Yesha Yadav:

Prediction markets, Polymarket in particular, was pointing towards a very different outcome than what the pollsters were suggesting.

Paul Solman:

The day before the election, Polymarket gave candidate Trump a 58 percent chance of winning. Now, part of the prediction market boom has been relaxed regulation, the Supreme Court OKing sports betting back in 2018, the increased ease of using virtual private networks, VPNs, to skirt restrictions online that allows Americans to use Polymarket despite a U.S. ban that began during the Biden administration.

Rajiv Sethi:

There are many U.S. traders who bet on Polymarket, but they will use VPNs to operate as if they're accessing it from outside the United States.

Paul Solman:

Under the Trump administration, the Commodity Futures Trading Commission allowed Polymarket to open a regulated U.S. version, but it has a wait-list to use it. The unregulated version does not.

Rajiv Sethi:

Polymarket is much more like the Wild West. Polymarket itself doesn't know who's trading on the platform because these are crypto wallets, and the real-world identities of those folks are not visible even to the exchange in most cases.

Paul Solman:

And, hey, that's not the only downside. How about insider trading? One Polymarket user made over $400,000 predicting the removal of Venezuelan President Nicolas Maduro.

Justin Wolfers:

Someone bet a lot of money 12 hours before Maduro was ousted that Maduro would be ousted. They did that in a way that kind of makes you think that some information may have leaked from the White House or the Department of Defense.

Paul Solman:

Yes, insider trading plagues all markets, but the sheer profusion and anonymity of bettors make the likes of Polymarket especially susceptible.

Then there are cases like Brian Armstrong, CEO of crypto firm Coinbase, on an October earnings call.

Brian Armstrong, CEO, Coinbase:

I was a little distracted because I was tracking the prediction market about what Coinbase will say on their next earnings call, and I just want to add here the words Bitcoin, Ethereum, blockchain, staking and Web3 to make sure we get those in before the end of the call.

Paul Solman:

All words on which there were bets as to whether or not Armstrong would say them, though Armstrong said he was being spontaneous and his firm prohibits betting on prediction markets.

Rajiv Sethi:

Regardless of whether or not he had a stake in the outcome -- and I believe that he did not or at least he stated that he did not -- he had the ability to make some people a little bit richer and others a little poorer. And these kinds of markets are troubling for that reason.

Paul Solman:

And then there's the risk of compulsive gambling. Kalshi faces multiple lawsuits that cite its potential to lure young traders into addiction.

Justin Wolfers:

Gambling is just like many other drugs. It's highly addictive. And if you have ever had a friend who has become a compulsive gambler -- and I have -- they will bet money they don't have. They will destroy their family's well-being.

Paul Solman:

Of course, gambling addiction has been a problem for eons, but digital prediction markets, well, up the ante.

Justin Wolfers:

Given the fact that we all carry around a little screen that is a bookie in our pocket, you no longer need to walk to the corner.

Paul Solman:

Which means that prediction markets are a serious challenge for regulators.

Yesha Yadav:

Questions with respect to consumer protection are going to be front and center. What kind of disclosures will be given to people? Will there be limits on how much they can put into various markets? What about insider trading?

Paul Solman:

And in the end it matters to bettors and the markets alike.

Yesha Yadav:

If you want to have a healthy market, you need to have healthy people who are participating in that market, that don't feel like that market is taking advantage of them, but giving them real opportunities to learn, to participate, to grow in ways that don't result in them losing their skin.

Paul Solman:

That would be nice. But, in today's deregulatory environment, would you bet on it?

For the "PBS News Hour," Paul Solman.