The Legal and Regulatory Risks Facing Prediction Market Platforms in the U.S.

The U.S. prediction market industry is at a crossroads, with legal and regulatory uncertainties eroding the foundational confidence of both consumers and investors. Over the past two years, conflicting court rulings, divergent interpretations of federal and state laws, and aggressive regulatory scrutiny have created a volatile environment. This analysis examines how these challenges are reshaping the market landscape and what they mean for the future of prediction platforms like Kalshi and PredictIt.

A Fractured Regulatory Landscape

The Commodity Futures Trading Commission (CFTC) has positioned itself as the primary regulator of prediction markets, classifying event contracts as swaps under the Commodity Exchange Act (CEA). However, this federal oversight has clashed with state-level gaming laws, creating a patchwork of conflicting requirements. For instance, in 2025, a U.S. District Court in Nevada ruled that Kalshi, a CFTC-registered platform, was subject to state gaming regulations and could not evade oversight by relying on its federal registration. This decision contradicted earlier rulings in New Jersey and Texas, where courts had affirmed the CEA's preemption of state laws according to legal analysis.

The lack of a unified legal framework has left market participants in limbo. CFTC Commissioner Kristin Johnson has warned of "too few guardrails" around prediction markets, emphasizing the need for clearer boundaries. Meanwhile, state regulators argue that platforms like Kalshi operate under a lighter regulatory burden than state-sanctioned sportsbooks, which must comply with consumer protection measures and tax obligations according to recent commentary. This tension has fueled calls for federal legislation, such as the WAGER Act, to harmonize oversight and address perceived imbalances according to legislative proposals.

Erosion of Consumer and Investor Confidence

Legal uncertainties have directly impacted consumer trust. A 2025 report by the Conference Board noted that U.S. consumer confidence fell to its lowest level in 12 years, with the Expectations Index dropping to 63.2 as economic and regulatory uncertainties loomed according to the report. While this decline reflects broader macroeconomic concerns, prediction markets-often tied to high-profile events like sports and politics-are particularly vulnerable to regulatory shifts. For example, Kalshi's introduction of sports betting contracts, such as pre-built parlays, drew scrutiny from Nevada regulators, who argued the platform functioned more like a traditional sportsbook than a commodity exchange according to legal analysis. Such conflicts have left users questioning the legality and stability of their investments.

Investor behavior has also been affected. Despite Kalshi's $50 billion in notional trading volume by mid-2025 according to financial reports, the platform faces lawsuits in seven states and a class-action complaint alleging it operates as an unlicensed sports betting service according to the same reports. Yet, paradoxically, Kalshi raised $11 billion in funding during this period, suggesting that institutional investors remain attracted to the sector's growth potential despite legal risks according to investor data. This duality-high trading volumes paired with regulatory headwinds-reflects a broader trend: investors are betting on innovation but hedging against uncertainty.

Case Studies: Kalshi and PredictIt

Kalshi's legal battles exemplify the sector's instability. After a preliminary injunction in April 2025 shielded it from Nevada's gaming regulators, the court later dissolved the injunction, forcing the platform to halt sports betting in the state. This reversal sent ripples through the market, with some partners, like Crypto.com, withdrawing from certain states due to litigation risks. Meanwhile, PredictIt's legal victory in Texas-where a court ruled the CFTC's restrictions on its operations were "arbitrary and capricious" according to legal rulings&transitionType=Default&viewType=FullText)-highlighted the potential for favorable outcomes. However, PredictIt's reliance on a 2014 no-action letter from the CFTC underscores the fragility of its regulatory position.

These cases illustrate a broader challenge: prediction markets are straddling the line between financial derivatives and gambling, with no clear consensus on their classification. The CFTC's Advisory 25-36 explicitly warned that state-level challenges to sports-related event contracts could escalate, urging market participants to bolster risk management.

Implications for the Future

The current legal ambiguity is likely to persist until the Supreme Court addresses the issue. A circuit split-where different federal courts issue conflicting rulings-has already emerged, with Nevada and Maryland courts rejecting CEA preemption while New Jersey initially upheld it according to legal developments. This uncertainty could deter new entrants and force existing platforms to adopt costly compliance measures. For example, the CFTC's Floor Trader Exemption, which allows certain swaps to be traded without crossing $8 billion notional limits, has been criticized as insufficient to address the unique risks of prediction markets according to legal analysis.

Investors must weigh these risks against the sector's potential. Prediction markets have seen explosive growth, with platforms like Polymarket and Kalshi attracting both retail and institutional capital. However, the lack of regulatory clarity means that even successful platforms could face sudden operational restrictions or reclassifications. For instance, if the SEC were to assert jurisdiction over certain prediction contracts as securities, it could trigger a wave of compliance costs and legal challenges.

Conclusion

The erosion of legal certainty in U.S. prediction markets is a double-edged sword. While regulatory ambiguity has allowed innovation to flourish, it has also created a climate of risk that undermines long-term confidence. For consumers, the fear of regulatory overreach or sudden legal changes may deter participation. For investors, the sector's potential is tempered by the threat of litigation, reclassification, or legislative intervention.

The path forward requires a delicate balance: regulators must foster innovation while ensuring market integrity, and market participants must navigate a complex web of federal and state laws. Until a clear legal framework emerges, the prediction market industry will remain a high-risk, high-reward proposition-one where the next court ruling or legislative action could redefine the landscape overnight.