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Prediction markets

The narrative

It remains uncertain if political prediction markets will be introduced in the U.S. prior to the upcoming election. The decision lies with an appeals court, and a hearing lasting 2.5 hours this week did not provide many hints as to where the judges might stand on the issue.

Why it matters

Although Kalshi’s prediction markets don’t deal with cryptocurrencies specifically, if they manage to get permission to offer contracts on political events, it could pave the way for additional service providers to join or potentially return to the US market.

Breaking it down

The Commodity Futures Trading Commission is in the middle of a rulemaking process to ban political prediction markets in the U.S. entirely by formally adding these types of event contracts to the definition of “gaming.” That effort took a major blow last week, when District of Columbia District Judge Jia Cobb ruled against the regulator in Kalshi v. CFTC.

Previously, Kalshi attempted to independently approve political prediction markets in the year 2023; however, the Commodity Futures Trading Commission (CFTC) prohibited the company from listing or trading these products. Subsequently, Kalshi filed a lawsuit, and on September 6, the court ruled in favor of Kalshi. Although the judge’s reasoning behind this decision wasn’t made public until September 12.

The comprehensive view delves deeply into the way the judge evaluated the CFTC’s interpretation of terms like “gaming” and “involves,” as applied under the Commodity Exchange Act, which the regulatory body employed to dismiss the relevant products.

Immediately following the debut of its new contracts, Kalshi’s contracts were subjected to an emergency hold request by the CFTC, in hope of a short-term suspension until the appeals court justices could examine and decide on their emergency appeal motion.

Currently, the contracts remain on hold due to an upcoming court hearing scheduled for Thursday. Each party will have 15 minutes initially to present their case, but it extended to approximately 2.5 hours in total. The outcome of whether the contracts can resume might be revealed post-hearing, although no specific timeframe has been set yet. Additionally, there’s uncertainty regarding the appeal process and its potential outcome.

In simpler terms, the main issue at hand is the Commodity Futures Trading Commission (CFTC) deciding on rules regarding prediction markets in the U.S. The CFTC feels that they should not be tasked with regulating these markets because it would be challenging for them to monitor the market’s underlying data – such as election results – for fraud and manipulation.

1) In a court hearing on Thursday, Rob Schwartz, the General Counsel for the Commodity Futures Trading Commission (CFTC), stated that market data can potentially be distorted by deceptive or fake polling statistics, which could lead to manipulation of the markets themselves. Moreover, such manipulation in prediction markets might also erode trust in the integrity of elections as a whole.

According to Kalshi, these worries are irrelevant as the CFTC, authorized by Congress, has the power to prohibit specific kinds of event contracts, and election markets happen not to be among them.

Yaakov Roth, Partner at Jones Day, stated, “Their contention essentially boils down to labeling these contractual events as either gambling or illegal actions. The issue lies in the fact that the Commission’s interpretations of how the law applies and what the language implies are so broad that they would encompass all event contracts, making other specified activities redundant and fundamentally altering the structure of this statute. Moreover, they have yet to provide a clear demarcation principle.

Roth represents Kalshi in its case against the CFTC.

In Schwartz’s argument, he emphasized the Commodity Exchange Act (CEA) and its overriding of state laws as a key point. This is because certain states have laws prohibiting bets on elections. Since the CEA supersedes state law, if Kalshi were to offer contracts for political events, there could potentially be conflicts with these state laws in specific scenarios.

During the 2.5-hour hearing that was initially scheduled for only 30 minutes, both lawyers were thoroughly questioned by the judges, who appeared to show little enthusiasm towards either of their arguments. The final decision on the temporary stay is still uncertain.

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