US Prediction Markets Face Intense Regulatory Scrutiny: The Battle to Define “Gambling” vs. “Financial Derivatives”

The burgeoning landscape of US prediction markets has rapidly ascended in prominence, marked by a significant surge in trading volumes and user participation. This meteoric rise has not gone unnoticed by federal watchdogs, with Securities and Exchange Commission (SEC) Chairman Paul Atkins declaring prediction markets a “significant issue” under close regulatory observation during a recent Senate Banking Committee hearing.

The Conundrum: Are They Gambling or Legitimate Financial Instruments?

The explosive growth of the prediction market industry has become a focal point for top regulators. When pressed by senators, Chairman Atkins confirmed that this sector is a priority not only for him but also for Commodity Futures Trading Commission (CFTC) Chairman Michael Selig. Atkins highlighted the inherent complexity, stating, “Prediction markets are one of those areas where regulatory jurisdiction could overlap.”

Platforms such as Polymarket and Kalshi have witnessed unprecedented expansion over the past year, particularly during the lead-up to the 2024 US presidential election. These markets have even begun to eclipse traditional polling methods as key indicators of public sentiment and potential outcomes.

At their core, prediction markets operate through “event contracts,” enabling users to speculate on the outcomes of specific events—ranging from election results and economic data to sports competitions. However, the fundamental question of whether these products constitute legitimate financial derivatives or are simply a form of gambling, regulated by diverse state laws, has ignited a fierce jurisdictional battle between federal and state authorities.

A Tug-of-War Over Jurisdiction: Federal Regulators vs. State Laws

Operators of these platforms assert that, under the Commodity Exchange Act, event contracts should be classified as derivatives, thereby falling under the exclusive purview of the CFTC. Conversely, several US state governments have initiated legal challenges, alleging that certain platforms—especially Kalshi, due to its involvement in sports-related transactions—may be in violation of local gaming and gambling statutes.

Chairman Atkins clarified that prediction markets “primarily remain within the CFTC’s jurisdiction,” while emphasizing the ongoing commitment of both the SEC and CFTC to collaborate on this evolving issue. When questioned about the potential for new, more explicit regulations, he offered a cautious response: “We will continue to observe.”

Atkins underscored the SEC’s existing authority, stating, “I believe we have sufficient statutory authority. A security is a security, regardless of packaging. Whether certain products in prediction markets constitute securities depends on the specific wording and nuances of the contract terms.” This suggests the SEC maintains the right to intervene if specific event contracts are structured in a way that qualifies them as securities.

CFTC’s Vision: Nurturing Innovation with Robust Regulation

Echoing the sentiment of careful oversight, CFTC Chairman Michael Selig shared his perspective on the Bloomberg “Odd Lots” Podcast. Selig articulated the CFTC’s commitment to striking a balance:

“We will certainly take on this task, ensuring that these markets neither stagnate nor are pushed offshore, but rather that the correct rules and regulations are established to provide the best protection and ensure these markets thrive in the United States.”

This statement highlights the CFTC’s dual objective: to foster innovation within prediction markets while simultaneously implementing robust regulatory frameworks that safeguard participants and maintain market integrity within the US.

The Path Forward: Ongoing Observation and Collaboration

As prediction markets continue to evolve and attract widespread interest, the debate over their classification and the appropriate regulatory framework is set to intensify. The collaborative efforts of the SEC and CFTC, alongside the ongoing legal challenges from state governments, underscore a critical juncture for this nascent industry. The ultimate resolution will shape the future of how individuals can legally bet on, or invest in, the outcomes of future events in the United States.