Regulated vs. Unregulated Prediction Markets

No two businesses are exactly the same, and that is certainly true of prediction markets. There is a significant difference between onshore, regulated prediction markets like Kalshi, which are licensed and overseen by the CFTC, and offshore, unregulated prediction markets which aren't subject to rules or oversight. It is important customers understand the differences between regulated and unregulated prediction markets and be warned of the risks that trading on offshore prediction markets presents.

Under U.S. law, U.S.-based prediction market must obtain a Designated Contract Market license from the CFTC in order to offer future event contracts to traders. The process to obtain a license is arduous and requires the prediction market to demonstrate the ability to comply with hundreds of applicable CFTC regulations, twenty-three Core Principles that apply to all CFTC exchanges, as other applicable federal laws and regulations. Exchanges must also create their own exchange rules (subject to approval by the CFTC) sufficient to ensure that CFTC regulations are being followed by traders on the exchange.

But an offshore prediction market does not have to follow the same requirements. Offshore markets may allow users to trade on their platforms without implementing important requirements related to safeguarding customer funds, ensuring fraudulent or abusive trading activity is prohibited, surveilled, and policed on the exchange, adhering to reporting and customer clearing requirements, publishing trading data for public transparency, or only certifying contracts that follow U.S. law or regulation.

CFTC regulations require that prediction markets collect sufficient information to identify each user trading on the exchange so that it can detect and investigate violations. As a result, U.S.-based prediction markets are able to take action when they flag illicit activity like insider trading or fraud. It is important that prediction markets police illicit trading activity not only to comply with the law and detect unlawful behavior, but also to protect customers from fraud or other trading abuses by bad actors.

However, these regulations don't apply to offshore, unregulated prediction markets. Some offshore markets do not collect any identification information from their users, allowing anyone to trade anonymously on the exchange and significantly diminishing the offshore market's ability to police bad activity. Since this kind of setup may result in an innocent user transacting with a bad actor and being defrauded, it is important you understand the dangers of unregulated prediction markets before trading on an offshore platform.

Recent academic research indicates that offshore markets which do not identify their users have been targeted by significant illicit trading activities, like wash trading. Wash trading involves traders taking opposite positions on the same market to manipulate market price and is illegal under U.S. law and CFTC regulation. Further, some public reporting suggests traders may be utilizing offshore prediction markets to violate insider trading prohibitions, which are applicable to U.S.-regulated prediction markets but may not apply to markets overseas.

The Commodity Exchange Act, which governs contracts listed on U.S.-based prediction markets, contains special provisions allowing for CFTC review and rejection of contracts related to assassinations, war, or terrorism, amongst other issues. U.S.-based prediction markets carefully review contracts to ensure compliance with these regulations and rules and collaborate with the CFTC in the event the agency has concerns about a particular contract.

But offshore, unregulated prediction markets are not subject to any such restrictions and offer contracts that would violate these rules if offered by a U.S.-based exchange. As a U.S.-based exchange, Kalshi is committed to abiding by the Commodity Exchange Act's requirements and working constructively with the CFTC to ensure every contract it offers comports with applicable federal law and regulations.

While there are some structural similarities between how regulated and unregulated prediction markets operate, in reality, they could not be more different. A U.S.-based, regulated prediction market is required to follow hundreds of federal regulations related to customer protection, creating a safe and fair exchange, and providing regulators and the public with information about its exchange. It is required to police trading activity and comply with the restrictions of the Commodity Exchange Act. An offshore, unregulated prediction market is not required to follow any such restrictions – and as such, can be a dangerous place for users to trade.