The Problems with Prediction Markets, Part 2: Regulation, Ethics and Unintended Consequences

The Regulatory and Ethical Problems with Prediction Markets

In Part 1, I examined some of the most immediate concerns surrounding prediction markets, including responsible gambling, insider trading, market manipulation and whether sports betting is simply being disguised as financial trading. But those issues only scratch the surface. Prediction markets also raise much broader questions involving state and Tribal authority, the ethics of allowing people to profit from tragedies and other controversial events, and the potential for new forms of corruption.

In Part 2, we look beyond the individual trader and examine some of the larger consequences of the rapid growth of prediction markets.

Ignoring Tribal Sovereignty, Compacts and State Jurisdiction

The Indian Gaming Regulatory Act (IGRA) makes it clear that any gambling on Tribal lands requires compacts that gives the Tribes exclusive access to offer Class III gambling on their lands. Moreover in Florida, the compact between Governor DeSantis and the Seminole Tribe, gives the Seminoles a monopoly on all sports betting in the state both on and off Tribal lands, provided the servers are located on the Tribal lands. And in Maine the four Wabanaki tribes have exclusive rights to offer sports betting on all platforms. But for prediction markets, there is nothing that excludes sites like Kalshi or FanDuel Predict from offering sports markets even there. The CFTC argues that prediction markets, including sports markets, are not a form of gambling and hence prediction companies can offer the products anywhere that investing is allowed, including on Tribal lands where a compact is in place.  

Not surprisingly, the tribes disagree and say that sports event contracts are indeed Class III betting and bettors are using mobile apps while on Tribal lands and should therefore be subject to Tribal regulations under the IGRA. They further argue that taking away this revenue from them would cost them billions, which they use to pay for services without relying on state subsidies. The CFTC, on the other hand, says they supersede the IGRA and hence all prediction markets that are overseen by them are legal - even on Tribal lands. The prediction markets also say that their servers are not located on Tribal lands so the Tribes have no reason to claim violations of the IGRA.

Along with the Tribes, many states have either issued cease-and-desist orders or launched lawsuits against Kalshi for violating sports betting rules, since they say sports contracts are just sports betting in disguise (to be discussed a bit later) and that Kalshi, Polymarket and others are violating their gambling laws by offering sports contracts there. Last week the Ninth Circuit Court ruled against Kalshi in a lawsuit brought by the state of Nevada. The court said that Kalshi’s sports contracts were likely not swaps thus allowing Nevada state gaming regulators to enforce Nevada law related to sports betting, which led Kalshi to withdraw from the state, at least for the time being. And last month the Ninth Circuit Court of Appeals issued a similar ruling for the Tribes in California stating that Kalshi’s sports contracts were Class III gambling and violated the IGRA. Instead of issuing an immediate injunction, the appeals court sent the issue to the District Court for Northern California to find out how much damage is being done by these sites against the Tribes to take away any objections before issuing a full injunction.

Not surprisingly, the Ninth District Court’s ruling was significant and could be a precedent to make sports contracts illegal on prediction markets for every other state that does not want it. And the states are not sitting back. As it stands right now every state except Florida, Georgia, North Dakota and Texas have issued cease-and-desist orders and/or launched lawsuits in federal or state courts against prediction market sites, and the remainder joined in a 44-state unified legal offensive to have sports contracts on prediction sites ruled illegal. Legal experts have told me that Georgia and North Dakota tend to sit on the sidelines and only make decisions when it has played out already in the courts and Texas has opted out  of the 44-state unified legal action since Kalshi made a publicly known large donation to AG and Senate candidate Ken Paxton. As for the reason Florida chose not to get involved, it’s unknown, although Ron DeSantis is very close with Donald Trump Jr., who is an advisor to Polymarket and who is heavily involved with Truth Predicts which runs through Crypto.com. So there could be a personal reason in Florida as well for the decision not to try and ban sports contracts in that state.

It is inevitable that this will go to the Supreme Court of the United States (SCOTUS) to decide and that decision could be dependent on the outcome of the midterm elections or how much sway President Donald Trump has on them since he has posted on numerous occasions that he wants prediction markets to be legal in all forms. Trump posted the following on Truth Social in May:

“It is critically important that the CFTC’s exclusive authority over Prediction Markets is maintained, and that they will thrive. Under my leadership, we are setting ‘rules of the road’ that are the Gold Standard for the States.” 

One writer that I spoke to who covers prediction markets quite a bit said that he believes SCOTUS will put off hearing any case on prediction markets until 2028 when they will either become so normalized that they will have to devise a plan to legalize them in all forms, or that they can make a decision without considering the desires of the current president at the time.

Making money off tragedies and bets in bad taste

As someone who worked with sportsbooks for years, one of the absolute rules that each had was they would not offer bets in bad taste. A bet in bad taste was basically described as any wager where for the bet to win, someone or something would suffer. Examples include bets on assassinations; injuries to humans or animals, such as racehorses; natural disasters, including how many people might die in a hurricane; wars; and personal misfortunes, such as celebrity divorces. For the most part sportsbooks have avoided these types of bets, but prediction markets offer them all the time referring to them as “bets of public interest” or “culture bets".

Where Should Prediction Markets Draw the Line?

Aside from the invasion bets, Polymarket and Kalshi regularly offer bets on celebrity divorces and settlement amounts, how many category 5 hurricanes will hit the U.S. and number of acres burned in wildfires. They decided not to list the number of deaths because it’s “bad taste” but saying that 10,000 acres will burn to the ground and 1000 people will lose their homes is somehow ok.

And of course with the invasion bets, it is usually people with inside information that make money and there are always lawsuits over whether they should be paid out or not. In 2025, when the U.S. and Israel took out the Ayatollah Khamenei in Iran, one bettor on Polymarket called Magamyman made over $600,000 placing bets on the attack, including $120,000 on the Ayatollah’s death. Polymarket refused to pay out on the death saying after the fact they do not offer death bets, which has led to lawsuits and resulted in and a bill introduced in Congress to ban death bets on prediction markets, the DEATH BETS Act. This is still being litigated. Regardless, the other Iran bets were paid and the effects of the attack which resulted in the death of a reported 2,100 Iranian civilians, 13 U.S. military personnel and 120 children at a school when a U.S. Tomahawk missile missed its target were all just met with a shrug.

And for the market that asked how many acres would burn in the California Wildfires that is not only in bad taste but could lead to a bettor purposely setting additional fires to win the bet! And Polymarket also had markets on bank failures and a market on whether the Ocean Gate submarine that imploded and killed 5 passengers would be found intact or if the debris would be recovered.

Again all these bets are just in bad taste but the prediction markets defend the markets calling them current news and bets in the public interest. On Kalshi they come under the category called Culture. Prediction market proponents say these bets have a financial incentive and consequently provide the most accurate, unbiased data available to society which, in the end, will benefit countries and provide more accurate information than the news. But these types of bets would never be put out by a regular sportsbook because they avoid bets in bad taste and don’t want bad publicity. But with prediction markets it seems the philosophy there is there is no such thing as bad publicity.

Other Ways Prediction Markets Can Be Exploited

Finally, prediction markets are open to corruption in other ways as well. Here are just a few examples:

In elections, media often highlight prediction market percentages to show who is leading but on social media there are often people posting fake news including links to bogus prediction market percentages hoping that voters may stay home or vote differently since they will want to be on the side of the winning candidate.

Betting with Inside Information

Politicians that are in charge of ensuring fairness are said to often ask others to place bets on prediction markets for them and it often goes unnoticed. Had George Santos not bet on himself to go to the State of the Union and instead asked a friend to place the bet he may have gotten away with it. And as also noted Trump is offering a paid data feed giving trading firms faster access to posts from high-profile Truth Social accounts, including DJT’s. So, Democratic senators have asked the SEC to investigate, citing concerns about market fairness and potential insider trading.

Money Laundering Concerns

Prediction markets are also offer a way to launder money, since unlike traditional casinos or online sportsbooks and casinos that collect personal information, it is easier for a drug trafficker or crime boss to use prediction markets to hide the true proceeds of the money as prediction markets don’t collect the same type of personal information. And with all of the bets at Polymarket and Crytpo.com being processed by cryptocurrency it’s far easier to hide the true identity of a user who wants to stay anonymous.

Who Decides How Prediction Markets Are Graded?

And lastly, the process used to grade disputed bets can raise serious questions about fairness and transparency. In a previous article I noted that when there is a dispute as to whether the result is yes or no on Polymarket it often goes to their UMA to decide. And the UMA itself can be very corrupt. And the UMA dispute process itself can also raise concerns about fairness.

When Israel invaded Lebanon in 2024 a market was put up as follows: This market will resolve to "Yes" if Israel commences a military offensive intended to establish control over any portion of Lebanon between September 17, 2024 and September 30, 2024, 11:59 PM ET. Otherwise, this market will resolve to "No".

Israel indeed invaded Lebanon before September 30th but Israel denied it was a military offensive so it went to the UMA to decide and the UMA is hardly democratic. Any disputes are debated on Discord where users present their reasons for why it should be decided as yes or no, but in the end the decision is made on how many tokens each side is willing to put up. So even if 9 people wanted it to be decided as yes, which apparently happened for this particular bet but 1 wants it to be decided as no, then that one person can put up more tokens than the other 9 combined and get the outcome they want. These large token holders are known as UMA whales and one of those whales, known as Borntoolate.Eth has so many tokens that he can effectively determine the outcome of all disputes if he wanted to. So if there was a market asking whether the sun came out today in Finland today then if someone wants to dispute that it did, Borntoolate.Eth can technically put up enough tokens to make the result no. That is not only undemocratic but also silly and dangerous.

So, everybody is talking about prediction markets as the next great thing but I’ve provided 8 concrete reasons why prediction markets may not always what they appear to be.  Between responsible gambling concerns like minimum age; insider trading concerns; the CFTC ignoring State and Tribal jurisdiction rules; market manipulation; offering sports betting but calling it investing; offering bets in bad taste; fake narratives on who is making money and how much; and other forms of corruption, it’s obvious that prediction markets have a lot of flaws. Kalshi, Polymarket and the other prediction market sites say they are willing to do what is needed to get rid of the concerns but talk is cheap. To be comparable to sportsbooks and true forms of investing like the stock market, the prediction sites and CFTC may have to give up sports betting contracts, stop taking bets on things like wars, acres of land burned in wildfire,  and other bets in bad taste and put in rules where the markets are clear and easy to grade without a confusing and disingenuous method of dispute resolution like the UMA. But if prediction markets just stuck with elections, award shows, and closing prices on commodities, volume bet would drop to near zero levels and they could become irrelevant. Every analyst I spoke to says Kalshi, Polymarket and the CFTC know this so expect them to fight tooth and nail on ensuring every market they offer remains available, since doing otherwise could mean the end of the industry.

Read insights from Hartley Henderson every week here at OSGA and check out Hartley's RUMOR MILL!