Prediction markets like Polymarket are soaring in popularity. Here's why they're risky for investors

Published in Stocks and Investing on Wednesday, August 27th 2025 at 10:38 GMT by Fox 11 News
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Prediction Markets: The All‑Seeing Tool or the Risky Mirage for Investors?
(An in‑depth recap of Fox 11 Online’s investigation into prediction markets and the pitfalls they pose to retail investors.)

What Are Prediction Markets?

Prediction markets are digital exchanges where people buy and sell contracts that pay out based on the outcome of future events. Think of them as a sophisticated form of betting – except the focus is on the probability that an event will happen, not the chance of winning a game. The most familiar examples are betting sites for sports or elections, but the concept has been adapted to finance, politics, entertainment, and even scientific research.

The mechanics are simple: traders purchase a contract for, say, “Will Candidate X win the 2024 presidential race?” If Candidate X wins, those holding the contract receive a payout, typically $10 per contract, at which point the price is effectively the market’s forecast of that outcome’s probability. If X loses, the contract expires worthless. The market price is continuously adjusted by supply and demand, theoretically converging on the true probability of the event occurring.

The Promise – Why Some Think Prediction Markets Are “Smarter Than Humans”

Aggregating Diverse Insights – The theory, pioneered by economists like Paul Samuelson and later popularized by scholars such as Eric L. H. and Thomas A. Shapiro, argues that markets fuse countless individual pieces of information, many of which would be invisible to a single analyst.
Historical Accuracy – From predicting election outcomes in the U.S. and U.K. to forecasting the results of football championships and even the pricing of rare crypto tokens, studies have shown that prediction markets often beat traditional polls and models.
Liquidity for Rare Events – Some niche outcomes (e.g., whether a specific company will file a patent, or the release date of a blockbuster movie) are hard to gauge through conventional research, yet prediction markets can provide a price.

Because of this reputation, many investors, especially those comfortable with derivatives trading, see prediction markets as a low‑cost, high‑reward tool to hedge their portfolios or spot new opportunities.

The Dark Side – Risks that Fox 11 Highlights

Despite their alluring efficiency, prediction markets come with a long list of practical and regulatory hazards. The Fox 11 article dissects these risks in depth, and the summary below distills the most critical points.

1. Regulatory Gray Zones

SEC and Unregistered Securities – Many prediction‑market platforms are built on blockchain protocols (e.g., Augur, Gnosis) that operate as decentralized autonomous organizations. In the U.S., these can be classified as unregistered securities, meaning they are not subject to the protections normally offered by the Securities and Exchange Commission. Investors can lose their money without any recourse.
International Compliance Issues – A platform that’s legal in one jurisdiction might be outright banned in another. For example, a popular U.K. betting exchange may be considered illegal in the U.S., leading to sudden shutdowns that leave traders stranded.

2. Market Manipulation

Pump and Dump – Because prediction markets are relatively thinly traded compared to traditional securities, a single entity with a large position can swing the price dramatically. If a trader buys a large block of “Yes” contracts, they can artificially inflate the probability and trigger a cascade of buying before selling for a profit.
Front‑Running – Some exchanges allow “market makers” to place limit orders that other traders can see before the orders are executed, giving insiders an unfair advantage.

3. Liquidity Concerns

Limited Counterparties – The Fox 11 article points out that many prediction contracts have few participants. This lack of depth means that large orders can move the market price significantly, effectively turning a $10 contract into a multi‑hundred dollar risk for the trader.
Liquidity Withdrawal – During periods of high volatility (e.g., an election night), platforms may temporarily restrict withdrawals, leaving traders unable to access their funds until the market stabilizes.

4. Lack of Transparency

Opaque Data Sources – Unlike regulated exchanges that publish audited trading data, many prediction markets rely on user‑generated information. There’s no guarantee that the data used to set prices is accurate or free of bias.
Hidden Fees – Some platforms impose steep “take‑profit” fees or require users to pay “gas” (transaction fees on blockchains) that can erode returns, especially when the contract is settled quickly.

5. Psychological Factors

Overconfidence – The “market is right” narrative can lead investors to over‑value prediction markets as a silver bullet, ignoring fundamental analysis.
Short‑Term Focus – The high turnover of prediction markets can encourage speculative behavior rather than long‑term investment strategies.

Real‑World Examples of Trouble

Fox 11 references a handful of cases where prediction markets backfired:

The 2016 U.S. Presidential Election – Several smaller exchanges collapsed after a wave of regulatory scrutiny, leaving thousands of traders with frozen accounts.
Betfair’s “In‑Play” Scandal – Allegations that insider traders manipulated odds during live betting on major sports tournaments demonstrated how a thinly traded market can be vulnerable to manipulation.
Cryptocurrency‑Based Prediction Platforms – Platforms that built prediction markets on top of volatile crypto tokens (e.g., Ether) suffered from price slippage and high gas fees, wiping out expected profits.

How to Protect Yourself

If you’re a retail investor tempted by the potential upside of prediction markets, the Fox 11 article offers a pragmatic playbook:

Do Your Own Due Diligence – Investigate the platform’s regulatory status, read user reviews, and examine transaction history if available.
Limit Exposure – Treat prediction contracts as high‑risk, low‑liquidity derivatives. Never invest more than a small portion of your portfolio.
Stay Informed About Legal Developments – Follow updates from the SEC, CFTC, and international regulators. A sudden regulatory announcement can devalue or shut down a market overnight.
Beware of “Too Good to Be True” Promises – Guarantees of high returns or “risk‑free” predictions are red flags for scams or pump‑and‑dump schemes.
Diversify Across Platforms – If you decide to trade, spread your bets across multiple, reputable exchanges to mitigate platform‑specific risks.

Conclusion

Prediction markets embody a paradox: a tool that harnesses collective wisdom and offers unprecedented forecasting power, yet sits in a legal and operational limbo that exposes investors to manipulation, liquidity crises, and regulatory crackdowns. Fox 11’s investigative piece reminds us that, while the allure of “betting on the future” can be strong, the hidden costs and risks often outweigh the potential gains.

For the cautious investor, the lesson is clear: view prediction markets as an experimental instrument—use them sparingly, stay well‑informed, and never let the promise of a quick profit eclipse the prudence of traditional risk management.

Read the Full Fox 11 News Article at:
[ https://fox11online.com/money/investing/prediction-markets-risks-for-investors ]

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