How Do Prediction Markets Work? 

Key takeaways 

• Prediction markets are exchange-traded event contracts where users buy/sell outcome-based contracts (often digital) on real-world events; winners get paid at settlement based on the resolved outcome. 

• Two core contract types drive how payouts work. Binary (“yes/no,” typically $1 if true, $0 if false; max loss = purchase price) and multi-outcome (multiple possible results, often using parimutuel-style proportional payouts). 

• Price functions like an implied probability, especially for binary contracts. If a “yes” share trades at $0.75, the market is implying roughly a 75% chance. updated continuously as news, time, and sentiment shift supply/demand. 

• Trading mechanics resemble markets more than sportsbooks. Participants can enter/exit positions before resolution, using CLOBs (bids/asks), AMMs (algorithmic liquidity), and concepts like bid-ask spread, liquidity, and slippage to understand execution quality and volatility. 

• Key risks aren’t just being wrong. Regulatory uncertainty and access issues, thin, resolution ambiguity and potential market abuse, making careful sizing and contract-term scrutiny essential. 

Prediction markets have made plenty of news in recent years, offering event contracts in activities ranging from elections to economics to sports. Prediction markets are exchange-traded platforms where users buy and sell contracts based on potential outcomes of certain events. 

The prices of these contracts vary depending on supply and demand, and those with winning predictions are paid out based on these results. Keep reading to learn more about prediction markets and their place in today’s betting and gambling landscape. 

The prediction market contract 

Simply put, prediction markets are contracts based on a certain outcome of a future event. These are tradable digital assets that allow platform users to wager on real-world events. There are two main types of contracts available on prediction markets: 

• Binary contracts: These are contracts that pay out a fixed amount based on a certain outcome happening. Basically, buyers are entering into contracts with a yes or no result. These events pay out $1 or pay out $0 based on the results of the proposition. With this type of contract, the maximum loss is the amount one pays for the contract. 

• Multi-outcome contracts: These contracts focus on more complex, non-binary propositions, such as election results, sports winners, and other events. These contracts make use of parimutuel modeling with payoffs at resolution made proportionally to winners, similar to the payouts seen in horse racing. As the name implies, these contracts may have multiple possible results. 

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How price becomes probability 

In prediction markets, an event’s price represents the probability of that potential outcome because contracts are generally structured to pay $1 if an event occurs and $0 if it does not for binary contracts. For example, a “yes” contract trading at $0.75 implies that the event has a 75% probability of coming true. This offers a look at the collective view of that event in real time as prices fluctuate with increased trading. 

Prices can go up and down based on events in the news, general shifts in opinions on an event, time lapse that may affect an outcome, and more. An event contract reflects a collective view on an issue. Users are financially motivated to make their best predictions and because of that, these markets are playing a bigger role in gauging feelings on elections, the economy, and other current events – especially in highly liquid markets. 

How trading works 

Unlike traditional sports betting, prediction markets like Kalshi allow users to trade contracts, similar to a stock market. Participants aren’t tied to a fixed wager like when betting on a football game. 

Instead, traders are purchasing and selling contracts with each other, and can buy and sell contracts at any time before the actual event concludes. Markets make use of a few key tools and concepts to keep the process running smoothly: 

Central Limit Order Books (CLOBs) 

These are used aggregate user “bid” (buying) and “asks” (selling) on event outcomes. This allows traders to set specific prices, with the spread between the highest bid and lowest ask indicating market liquidity. 

Automated Market Makers (AMMs) 

These replace traditional order books with algorithms to complete the process of aggregating buys and sells. AMMs provide constant liquidity and instant trade execution. These systems guarantee that a price is always available and costs for betting on an outcome go up as additional bets are placed. 

Bid/Ask Spread 

This is the transaction cost between the highest bidder and lowest seller price. These spreads will generally be higher in low-volume or highly-volatile events with smaller spreads for high liquidity events.  

Liquidity 

This refers to the ease of traders in buying or selling contracts without seeing major shifts in price. High liquidity brings stable trading while low liquidity can mean higher volatility and larger movement with even small trades. 

Slippage 

The difference between the expected price of a trade and the actual price once an order is filled. These can be different as prices change quickly based on real-time activity. The results can be expressed in negative or positive terms depending on the price achieved based on expectations. 

Lifecycle of a trade 

Those new to a prediction market may wonder how to actually make a trade and enter into an event contract on these platforms compared to a traditional sportsbook. Here’s a step-by-step look at the process. 

1. Find a market: Look for a market that interests you. The platforms generally offer a wide range of options to choose from. 

2. Assess probability: Look at the probability of the selections and assess your knowledge on a certain outcome. Remember: the cost represents the implied probability of the outcome. 

3. Enter order: Select Buy for the “yes” or “no” propositions or another option for multi-outcome contracts. Enter the number of shares you’d like to purchase before finalizing the transaction. 

4. Monitor: Keep track of how your position looks including assessing the consensus assessment on the outcome to help shape your opinion. 

5. Exit or hold: Manage your position on the event contract by determining whether to ride it out by holding or selling your contract and exiting. 

6. Settlement & resolution: Once a resolution has been determined, your selection will be settled with funds sent to your account. Resolutions of the event can be based on trusted data sources. Prediction markets also make use of “oracles,” which are decentralized systems that determine outcomes based on available data and trigger payouts to contract traders. This offers a way for dispute resolutions. Platforms may also offer additional appeals processes for dispute resolutions that can include community voting and decentralized arbitration. “Edge cases” refer to outcomes that may be ambiguous and these dispute resolutions may help to arbitrate “badly written” markets. 

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Fees and costs 

When going through this process outlined above, users will want to know the fees and costs involved with these transactions. Most prediction markets take a fee for offering event contracts, taking a percentage of all money wagered on the market, different than the traditional fee (known as the “juice” or “vig”) paid per wager at a sportsbook. 

These fees can range from virtually free to 0.1% on Polymarket all the way up to 15% on some platforms. Most platforms allow for free funds withdrawals, depending on method, while some may charge small fees. Check a site’s terms of service for fees charged. 

Why people use prediction markets 

There are many reasons users enter into event contracts on prediction markets. These platforms offer a chance at speculation, making use of a person’s expertise or opinion on an issue to secure a financial gain. Traders may also use their funds to hedge against certain events or to offer their own forecast on an issue. 

These traders’ participation on a market may also be a way to be part of a larger forecast on an issue, such as an election or sporting event. More recently, sports fans have viewed prediction markets as a means to engage in a sports betting-like activity, although this isn’t quite the same as traditional wagering. 

There is no house, sportsbook, or casino in the case of sports event contracts. Instead, the trader is making his selection against other traders. They can also exit the market as well, a key difference. Another key difference is that event contracts are regulated at the federal level by the Commodity Futures Trading Commission (CFTC) rather than state gaming regulators. 

This means prediction market platforms may be available in states without legalized sports betting. However, this is a contentious issue at the moment as states battle in court against the industry. For example, platforms like Underdog operate under federal CFTC oversight, allowing users in eligible states to trade on event outcomes even where traditional sportsbooks are not permitted. 

Federal lawmakers have also asked the CFTC to look at sports event contracts and if they should be treated more as sports betting. Some legislators have pointed to a lack of oversight, consumer protections, and responsible gaming protections and tools for users. 

Risks and limitations 

There are some risks associated with using prediction markets. As noted, several states are taking action against these companies arguing that they are in violation of state gaming laws. Some had even been forced out of certain states. That offers some regulatory and access concerns for potential users. 

On the other hand, this also offers some opportunities for those seeking to make selections on sporting events who may not currently be located in legalized sports betting states. 

As for some other concerns for those who may be considering creating an account and trading in event contracts, site manipulation attempts have raised concerns on occasion. This has involved potential insider trading. 

For example, in January some users on Polymarket alleged insider trading on markets tied to the capture of Venezuelan leader Nicolás Maduro. The platform took numerous bets on the former Venezuela president’s ouster only hours before Maduro was taken into custody by U.S. forces. 

This came after a similar incident in December when a user apparently won 22 of 23 bets on the platform for more than $1 million, all in just one day. Yahoo Finance noted that Polymarket terms of service don’t cover insider trading, yet another risk to consider when choosing to use these platforms. Here are a few other risks to consider: 

• Thin liquidity: This is a problem in some markets, meaning there are fewer traders and low trading volume. Thus, small trades can cause significant movement in these markets. This can lead to major price fluctuations and misleading prices, exposing traders to higher risk. 

• Resolution ambiguity: Ambiguity of results can be another issue traders may have to deal with. Resolution ambiguity occurs when an exact outcome in a market is unclear or contested. This can result in “invalid market” rulings by platforms or use of blockchain-based oracles to make determinations. These decisions can leave some users frustrated with these outcomes and how a result was determined. Many platforms are now focusing on more precise language and objective criteria in determining market outcomes. However, dispute and ambiguity can still occur at times. 

• Overconfidence: This trait can skew a users own selections based on his or her own overexuberance on an issue or event. It’s important to gauge your own knowledge when making trades. Additionally, other users’ overconfidence and a mistaken consensus may skew results and affect pricing.  

Like traditional sports betting, there can be some real skill in predicting outcomes. Savvy traders will do their research and make picks based on research and evidence, not necessarily on a whim or simply going with the consensus viewpoint. 

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A new legal flashpoint in Nevada 

Regulatory uncertainty is not just theoretical, and Nevada has become a key battleground. In mid February 2026, the U.S. Court of Appeals for the Ninth Circuit denied Kalshi’s request for an administrative stay, which removed a key barrier that had been limiting state action while the appeal moved forward. 

With that stay denied, the Nevada Gaming Control Board moved quickly, filing suit in Carson City seeking to block Kalshi’s sports related event contracts in the state, characterizing them as unlicensed wagering under Nevada law. This followed a federal ruling in late November 2025 that found Kalshi was subject to Nevada gaming rules and ordered the company to stop offering those sports contracts in the state, even as Kalshi continued to pursue an appeal.  

At the same time, the Commodity Futures Trading Commission signaled it is prepared to fight for a federal lane. Its chair, Michael Selig, filed an amicus brief in the same Ninth Circuit dispute arguing the CFTC has exclusive jurisdiction over these markets because they function as financial derivatives rather than gambling, and that state level bans are not permitted under that framework.

Reporting around the filing describes the posture as a sharp shift under the Trump administration, with prediction markets framed as tools for hedging risk and, increasingly, as a viable alternative to current gambling markets, a shift already reflected in the growing user bases of platforms like Polymarket. 

Beginner checklist 

Thinking about venturing into the world of prediction markets? Here’s a quick checklist on concepts and things to keep in mind. 

• Read the contract terms: Know what you’re actually getting into, including the pricing structure, current odds, and how the outcome of the market will be decided. Have an understanding of the process before making a trade. 

• Avoid illiquid markets: Illiquid, low-volume prediction markets can be susceptible to manipulation. This situation can make them difficult to exit as there are fewer traders. Instead look for solid liquidity – many recommend markets with at least $100,000 or more. As with selecting stocks, it may also be advised to diversify our portfolio so that not all of your trading is in one or just a few sectors. 

• Size small: Dipping a toe into the waters may be advised for those new to trading on prediction markets. Don’t go overboard with trading large amounts of money. Making small bets may be the way to go as you learn the ins and outs of these unique wagering options. As you advance in your knowledge and success rates on the sites, you can then determine if you’d like to increase your amount risked. 

• Track results: As with any type of gaming as well as with activities like investing in the stock market, tracking results can be key in gauging your success. What types of markets are you finding success in? What went wrong on your losing contracts? These are some of the questions you may want to ask as you track your results. 

Where to trade prediction markets? 

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