Can prediction market become the traffic entrance of Web3?

Author: Revc, Golden Finance

Preface

The heat of the prediction market continues to rise, with the Trading Volume repeatedly hitting new highs. In the last week of September, Polymarket and Azuro's Trading Volume reached USD 570 million, showing the vigorous development potential of the track, and innovative products continue to emerge.

In the short term, the US election has played a crucial role in the development of the prediction market, including congressional races. The total spending for this election, including congressional races, may reach nearly $16 billion, making it the most watched event by the American public. However, the market is generally not optimistic about the performance of the prediction market after the election.

PolyMarket

According to Dune's data, the total volume of Polymarket has exceeded $4.1 billion, and users have generated nearly 5.2 million transactions in total.

However, the overall profit level of users is not optimistic. According to on-chain analysis tool Layerhub data, among 171,113 encryptionWalletAddresses on Polymarket, 149,383 (87.3%) have not made a profit. There are 21,730 confirmed profitable wallets, accounting for 12.7% of all participating encryptionWallets. Among the reported profitable wallets, only 2,138 users have made more than $1,000 in profit, with most profits ranging from $0-100.

The above situation may change with the largest predicted event Settlement, and the current total bet amount for the 2024 presidential election has exceeded $720 million.

Let's review the design mechanism of Polymarket again:

1. Polymarket will transform binary outcomes on the Polygon network into ERC1155 Tokens. It allows collateral to be split into outcome Tokens and recombined after the event result is revealed (i.e., probability becomes 0 or 1).

2. Polymarket adopts a hybrid decentralized order book model, also known as Central Limit Order Book (CLOB). The operator provides off-chain matching and ordering services, but the actual Settlement and execution of trades are conducted on-chain in a non-custodial manner. In addition, users can also choose to trade via AMM (AMM).

3. Polemarket resolves market disputes through UMA's Optimistic Oracle Machine. If there is a dispute over the outcome of an event, UMA Token holder will vote to determine the correct result.

Polymarket charges a 2% fee from winning bets to reward Liquidity Providers. So far, Polymarket has paid over $3 million in USDC rewards to Liquidity Providers to enhance market Liquidity**.**

However, as the trading price (probability) of the predicted event tends to approach 0 or 1, which is different from the price change logic of traditional assets, Liquidity Providers face a higher risk of Impermanent Loss, so they need a more complete reward mechanism to cover the capital cost and Impermanent Loss of Liquidity Providers.

What is a high-quality predictive event

Polymarket's success is due to the U.S. election, and currently the top volume prediction events are all related to the election. The product's explosive growth coincides with the election cycle. In the context of strong regulation in the United States, people's trading demand is being released on Polymarket.

High-quality prediction events are the core of maintaining the competitiveness of the prediction market and usually require the following factors:

1. The social media influence of people related to the event, such as Musk's own X CEO and the world's richest man halo, helped Trump's election.

2. Huge social enthusiasm, as mentioned above, the two-party election spending in the election year amounted to nearly $16 billion.

3. Events with relatively balanced probabilities, comparable potential of relevant parties, multiple factors affecting the game, and a limited selection. That is, it can attract sufficient Liquidity aggregation, reduce users' initial losses (asymmetric information losses) and Liquidity Providers' Impermanent Loss.

4. On the contrary to the third point, the prediction event is overlapped and mixed, increasing the randomness of the outcome and the entropy of the entire process, catering to the needs of users with higher risk preferences.

Predicting the new development trend of the track

The prediction market is currently mainly innovating in terms of Liquidity and user participation, but the innovation is limited, and future competition will mainly be in the event operation level. Micro-innovation is mainly reflected in the following aspects:

1. Through the point-to-pool Liquidity model, funds are centralized to meet market demand and ensure sufficient Liquidity even in niche markets. However, prediction markets have random liquidity characteristics depending on the degree of information decentralization. Excessive following of Liquidity without proper cost coverage will have a long-term impact on the development of prediction markets. Accumulating Liquidity implies a certain degree of market distortion.

2. Allow users to make more complex leveraged bets, increasing market appeal, but follow Risk Management.

3. Promote through social media, integrate specific scenarios, and increase user engagement.

In addition, the potential application of AI in event selection, information aggregation analysis, and automated trading is also worth developing. The process of information pricing is essentially about information dissemination, the main development trend of the prediction market, is to make information dissemination more efficient and maximize economic benefits.

Regulatory Impact

Contracts involving illegal or contrary to the public interest are not allowed according to the regulations of the Commodity Futures Trading Commission (CFTC). In 2024, the CFTC introduced a new rule prohibiting Contract Trading based on political event outcomes, considering it against the public interest. This has impacted platforms that rely on political prediction markets such as Polymarket, PredictIt, and Kalshi. Elizabeth Warren even publicly called for a complete ban on these election prediction markets by the CFTC, expressing concerns about their interference with the democratic process. With increasing regulations, platforms urgently need to adapt to the new environment, or their business development will be restricted.

The prediction market is reshaping the boundaries of politics and business, providing new possibilities for social decision-making. Although it currently provides economic freedom, social and political influence has been eroded as a result. The key issue is not the prediction behavior itself, which may be due to insufficient regulatory adaptation to emerging technology business models. Prediction markets that can leverage regulatory space and innovate business models will achieve better development.

Summary

According to Layerhub's data, Polymarket currently has nearly 180,000 independent users. Although it has not yet had a significant impact on the overall user scale of the crypto market, as an economically reasonable and excellent user experience Web3 product, it has constructed a complete encryption trading solution. It is worth learning from the industry.

With the end of the US election cycle, prediction markets still face many challenges. In the short term, their role in decision-making and collective intelligence has not yet been demonstrated, and issues such as market demand and liquidity need to be addressed. In addition, the constant changes in regulatory policies have brought uncertainty to the development of prediction markets.

The prediction market has a positive significance in improving social information transparency, especially in the context of the declining credibility of traditional information channels. Its successful cases also provide inspiration for other Web3 projects: focusing on mid-term sustainable development in segmented scenarios to meet a wider range of user needs.