What is a prediction market? How it works and what are its uses

Prediction markets have been making headlines recently after demonstrating an uncanny ability to forecast global events with a level of accuracy never seen before by traditional bookmakers or even poll results.

With the leading forecast market Polymarket With early predictions that Joe Biden would withdraw from the US presidential race, people have become increasingly interested in the “wisdom of crowds” and the potential applications of these markets.

What is a Prediction Market?

A prediction market is a financial market in which people speculate on the outcome of all kinds of events by buying and selling stocks that represent the probability of certain outcomes.

For example, the Polymarket prediction market allows users to buy and sell stocks or contracts on events ranging from political elections, to sports matches, to the results of music award ceremonies, and to the prices of cryptocurrencies such as Solana’s All-Time High Odds before the end of the year.

Because these prediction markets involve large numbers of trained and methodical analysts publicly speculating on the outcomes of major events, with a financial incentive to express their true opinions, these markets may be useful in indicating public sentiment and perhaps even offering accurate forecasts in some cases.

Historical context of prediction markets

Prediction markets are by no means a new invention and date back at least to the 1500s, when people used to speculate on the outcome of papal elections. Wall Street has been betting on political elections since at least the 1800s, and there is evidence of prediction markets betting on elections in Canada and Great Britain during the same time period.

However, in modern times, the nature of these markets has become significantly more complex and sophisticated.

Let’s take a look at how these prediction markets work.

How Prediction Markets Work

Typically, a prediction market allows users to buy a contract or stock that represents an outcome. A market will have a specific set of events with two or more outcomes that users can trade.

For example, a market might speculate on the outcome of an election with two possible outcomes. It will open with contracts available for purchase that support the victory of one of the two candidates, and these shares may begin to trade at equal values.

So, for example, a win for Candidate A will result in a certain number of contracts at a price of $0.50, while a win for Candidate B will result in the same number of contracts at the same price.

As users begin to trade the contracts, the value will swing in one direction or another, indicating the general sentiment of the crowd speculating on the event and giving viewers an idea of ​​what the market thinks will happen.

Polymarket’s Odds of a TikTok Ban in the US Demonstrated Through Contract Stock Prices | Polymarket

Unlike a traditional bookmaker who provides odds on these events, users of a prediction market can make swings in trading contracts, realizing profits or covering losses at set points throughout the life of the event.

In cryptocurrency, these markets often use a hybrid decentralized model. While the platform staff still decides which events are traded, the community itself can provide liquidity to the market, attempting to profit from it.

We wrote an extensive article Polymarket Forecast Market Guideincluding the nature of the profit arising from the provision of liquidity.

Types of Prediction Markets

There are four main types of prediction markets in 2024. The following list refers to the general type of platform, while later we will explore specific types of betting models.

Fixed odds betting

Fixed odds betting is probably the type of market most people are familiar with, odds set on an event by a traditional bookmaker or sports betting website. Bettors place bets and cannot exchange or sell their contracts, and payouts are calculated based on when bets are placed by bettors.

Continuous Double Rod (CDA)

CDA markets allow users to buy and sell orders at any time, allowing arbitrage and swing trading of contracts until the end of the event. Polymarket is one such market, as Iowa Electronic Markets uses fiat instead of cryptocurrency.

Automated Market Maker (AMM)

AMMs like Augur and Gnosis use algorithms to provide liquidity and automatically set prices based on supply and demand for contracts. These are more decentralized than crypto prediction markets like Polymarket, which have more human oversight and can be considered hybrid-decentralized, or perhaps simply centralized.

Parimutuel Markets

Pari-mutuel markets like the Hollywood Stock Exchange pool bets and calculate winning odds based on the distribution of bets on different outcomes. Winners share in the final prize pool of profits.

Types of contracts/bets available on prediction markets

There are different ways in which a contract can unfold in a prediction market, or to put it simply, there are different types of betting models available.

Binary yes/no results

A binary market is the simplest type of market or contract that exists in a prediction market.

Category Markets

Categorical markets have multiple possible outcomes rather than a simple yes or no, allowing for more diverse trading options.

Scalar markets

Scalar markets, or scalar bets, offer continuous outcomes within a range. For example, a market could trade based on the price of Bitcoin by the end of the year, with options ranging from $20,000 to $10,000. Instead of having multiple fixed options, users can buy contracts based on their estimate of the correct answer, and the closer they are to being correct when they sell their contracts, the more their contracts are worth.

Best Crypto Prediction Markets in 2024 and Beyond

Now that we know how cryptocurrency prediction markets work, let’s take a look at some of the best cryptocurrency prediction markets available right now.

It is worth noting that cryptocurrency prediction markets are still a relatively new addition to the ecosystem and none of the markets listed below currently offer advanced trading features such as stop loss or take profit automation.

Polymarket

Polymarket is a cryptocurrency prediction market based on the Ethereum and Polygon blockchain networks and interfaces with Web2. Users trade USDC stablecoin contracts. Polymarket is now the largest cryptocurrency prediction market by trading volume.

Augur

Augur is a completely decentralized market predictions on the Ethereum market. Augur works programmatically, meaning there is little to no human oversight involved. Smart contracts read oracles, autonomous tools that feed news and market information to contracts, in order to determine what the outcome of an event will be to pay out winnings.

Spirit of the times

Zeitgeist is a prediction market based on the Kusama network. Users can benefit from a variety of betting models and the market is decentralized. Like Augur, the platform uses real-time oracles to feed live data to pre-programmed smart contracts.

Will Cryptocurrency Prediction Markets Be Valuable?

For a while, cryptocurrency prediction markets went unnoticed, often allowing a niche community to benefit from the so-called “wisdom of the crowd.”

However, with all the hype that has recently built up around prediction markets, much of it stemming from some cautious campaign insights from Polymarket, the landscape has seen a major shift, with mainstream investment and high trading volumes now taking over.

It will be interesting to see if prediction markets become a more popular indicator for predicting cryptocurrency prices in retail and institutional markets. If so, it is possible that they will suffer from price bias, which means that prediction markets could influence actual cryptocurrency prices, which in turn could cause predictions to be inaccurate as the market adjusts to them in real time.

In any case, the accuracy that prediction markets sometimes demonstrate is fascinating, and these markets are likely to become a key indicator for strategists and investors around the world.

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