Regulators and banks step up scrutiny of prediction markets

The Commodity Futures Trading Commission is conducting an internal review into "mention markets" on prediction platforms, people familiar with the situation told CNBC Friday. 

Mention markets are made up of contracts where traders speculate on whether specific words will be used in a speech, a corporate earnings call with analysts and investors or a television broadcast.

One of the people familiar with the matter said the CFTC first alerted platform Kalshi of the review several weeks ago. The platform removed sports-related mention markets around the same time the CFTC — the federal regulator for prediction markets — alerted the company, the person said. NPR first reported an inquiry into mention markets late Thursday.

It's unclear if the inquiry only applies to sports-related mention markets, or all of them regardless of topic.

Kalshi and the CFTC declined to comment.

Most scrutinized

Mention markets are some of prediction markets' most scrutinized offerings. Critics view them as easily manipulable by one individual, and some platforms don't offer them. Mention markets saw about $3.3 million in trading volume on Kalshi last month, according to Dune Analytics, far behind larger markets such as those devoted to cryptocurrencies.

In July, the CFTC said it was investigating a former teleprompter operator for President Donald Trump who allegedly made $90,000 in profits on Kalshi betting on the content of Trump's speeches.

Coinbase CEO Brian Armstrong last December rattled off a series of random words at the end of an earnings call to demonstrate how easily prediction market wagers can be manipulated. "I just want to add here the words bitcoin, ethereum, blockchain, staking and Web3 to make sure we get those in before the end of the call," he said.

Proponents of mention markets argue words by powerful individuals have the power to move billions of dollars of money across traditional markets, making it useful to have attach predictive power to them.

"The suggestion that Mentions Markets create 'new' manipulation incentives is, on close inspection, overstated," Kalshi head of market operations Arjun Sawai wrote in a letter to the CFTC as part of a public comment period last month. "They merely add a marginal, regulated, transparent, position-limited, surveilled increment to a vastly larger existing incentive structure."

Platform Polymarket does not have mention markets on its CFTC-regulated U.S. exchange, but offers them overseas.

Meeting next week

The probe into prediction market contracts comes ahead of a meeting of the CFTC's Innovation Advisory Committee on Aug. 20. The committee will discuss prediction markets, as well as artificial intelligence and cryptocurrency, according to a public agenda.

The latest investigation also comes after the CFTC increased scrutiny of prediction market platforms in recent weeks, even as it supports the event contract exchanges in a battle with states over sports-related wagers and gambling. The commission has sued nine states to defend what it sees as its exclusive jurisdiction to regulate event contracts. 

Last month, the CFTC invited public comments on vertical integration among regulated entities, warning platforms to avoid sending broadly-worded, self-certified event contracts. The agency also sent letters to the platforms last week, reminding them not to present their odds in a casino-style format.

A Washington state judge on Thursday issued an order blocking several of Kalshi's markets from operating there, including mention markets, sports, elections and other high volume categories. Kalshi is likely violating state law by operating as an illegal gambling operation, according to the order. 

Washington becomes the fourth state blocking Kalshi, joining Michigan, Nevada and Massachusetts. A federal judge in Minnesota last month overturned a potential statewide ban on prediction market platforms.

The Financial Times reported Friday that Polymarket was cut off from financial services by JPMorgan last October over concerns about government regulation. A Polymarket spokesperson told CNBC it's still maintaining a relationship with the largest U.S. bank.

"We maintain a close, active relationship with JPMorgan across multiple entities, operational integrations, and material handling customer fund flows; the strength of our relationship is highlighted by our CEO speaking at three of their flagship events in the past year alone," a Polymarket spokesperson said in a statement. "Any suggestion otherwise fundamentally mischaracterizes our relationship."

Disclosure: CNBC and Kalshi have a commercial relationship that includes customer acquisition and a minority investment.