A legal showdown over prediction markets and their designation under US law may soon reach the Supreme Court, as a growing debate over sports event contracts intensifies. This comes amid a notable circuit split on how these contracts are defined, with varying judicial interpretations complicating the landscape.
Last Friday, the US Commodity Futures Trading Commission (CFTC) introduced a proposal aiming to broaden the definition of swaps. Released just ahead of a busy football weekend, this notice of proposed rulemaking is considered a critical development for the multibillion-dollar prediction market sector.
The CFTC's proposed changes come after ongoing discussions regarding whether event contracts should be classified as sports wagers. Traditionally, swaps are seen as agreements based on events that hold “financial, economic or commercial” consequences. The Dodd-Frank Act delineates core elements that define swaps under the Commodity Exchange Act (CEA), while non-securities swaps are excluded from the SEC's jurisdiction.
In April, the CFTC celebrated a victory with a ruling from the US Court of Appeals for the Third Circuit which affirmed that sports event contracts could be classified as swaps under the CEA. The case, KalshiEX LLC vs. Flaherty, highlighted that outcomes of these contracts are linked to commercial or economic effects. The commission referenced this decision multiple times in its proposed rules, indicating that a broad spectrum of economic stakeholders—including sponsors, advertisers, and local economies—are affected by sporting outcomes. For instance, Madison Square Garden Sports saw its valuation nearly double during the New York Knicks’ recent championship run, contributing about $380 million to New York City’s economy.
Conversely, the Ninth Circuit Court ruled in August that Kalshi’s sports event contracts do not qualify as swaps, with Judge Ryan Nelson emphasizing that these should be considered sports wagers instead of mere financial instruments for risk transfer.
Further complicating matters, the Sixth Circuit opined that even if these contracts were deemed swaps, they would not override state sports gambling regulations. A circuit split between appellate courts typically raises the likelihood of Supreme Court review.
A crucial aspect of the CFTC's proposal is a provision that exempts casino-style games from being classified as swaps, aiming to address concerns that event contracts could blur the lines with traditional gambling games. Analysts from Citizens have noted that it seems unlikely that platforms like Kalshi and Polymarket will venture into offering casino-style games, suggesting these products are not a primary concern for investors.
The ongoing disputes regarding the jurisdiction of derivatives in this context are among the most contentious issues faced by the sports betting industry since the repeal of PASPA. The American Gaming Association has reported that these contracts could lead to over $1 billion in lost state tax revenue. During the Global Gaming Expo, Mike Dreitzer, Chairman of the Nevada Gaming Control Board, expressed concern over the legality of these contracts, accusing prediction markets of misleading practices.
“All we as regulators ask for is a level playing field,” Dreitzer stated.
Once published in the Federal Register, the public will have a month to submit comments on the proposed rulemaking, according to the CFTC.
