The Impact of Cryptocurrency on Wagering Markets

Throughout most of recent history, anything that involves the word “wagering” has been considered a vice. Despite the undeniable market opportunity, adoption of the industry has moved at a snail’s pace. There have been a few major developments in recent years (which I’ll touch on below), but for the most part, there is a general lack of innovation in the Gambling sector. Luckily there is a new technology that has the power to change that: cryptocurrency and blockchain.

The applications for cryptocurrency in wagering markets range from payment processing efficiencies to crowdsourced knowledge and more accurate information.

We have just begun to scrape the surface of what cryptocurrency can do for the wagering industry, but below are the key points that I’ll touch on:

  • Update on Centralized Wagering Markets
  • Crypto makes it easier (for sportsbooks) to accept payment
  • Decentralized Prediction Markets

Update on Centralized Wagering Markets

Daily Fantasy Sports emerged in 2015 and was classified as a “Game of Skill”, leaving it up to the states to decide whether they would allow paid contests. Although this is not classified as sports betting, this was a major step forward for sports technology and would pave the way for innovation in the space.

Until recently, there was a law called PASPA which banned sports betting across the US. PASPA was repealed in 2019, so now states could regulate sports betting laws. Statewide expansion is a bureaucratic process, which means it will move slower than anyone would like, but nonetheless this is a major step forward.

Crypto makes it easier (for sportsbooks) to accept payment

I mentioned earlier that sports betting is largely classified as a vice. Taking it one step further, payment processors label it a “high-risk” industry and refuse to process their transactions. Early stage companies suffer from expensive payment processing rates, while more mature companies are in a constant battle of conversion. The process usually goes something like this: Customer tries to deposit money, their bank flags the transaction as potential fraudulent or nefarious activity, and the customer is forced to try another card or endure a 30 minute customer support call. Anyone who has tried to deposit money at 11am on a Sunday in November will feel my pain on that.

This leads to a frustrating experience for all parties; the customer wastes time trying different cards and sportsbooks suffer churn from users who don’t have the patience to try the process again. Offshore sportsbooks, like Bovada and BetOnline, even have sophisticated customer support teams dedicated to making sure your payments go through.

Recently these operators began accepting deposits and processing withdrawals via BTC, a major improvement in terms of the overall User Experience (UX). It has reached the point where BetOnline states on their cashier page that 87% of customers deposit with BTC.

Crypto offers the following benefits compared to legacy payment methods:

  • Lower Fees than Credit Card
  • Higher probability of successful deposit
  • Faster payout time upon withdrawal

When depositing with a credit card, you can expect to pay a fee between 3–5% (although the fee amount is rarely explicitly clear when depositing). Any time you send a transaction using BTC, you can expect to pay a small fee to compensate the miners who validate the transaction. When depositing with BTC, you will need to pay this fee but this fee does not change depending on the size of the transaction (this is a crucial and often misunderstood feature). If you are depositing a fair amount of money (say >$200), the fees will likely be lower using BTC, and the savings will continue to accrue as transaction size scales.

I won’t go into the full decentralization pitch, but one major point of a decentralized currency is that there’s no intermediary to approve or deny a transaction. So assuming you don’t botch the transaction (which is pretty difficult to do), your money will always arrive in about 10 minutes for a deposit. On a withdrawal, the operator typically takes 24 hours to verify before sending, but after the withdrawal has been approved you are only subject to that same 10 minute delay. No more waiting 5 business days for an ACH to process.

Most sportsbooks will convert the BTC balance to USD upon arrival, but there are some options for users looking to wager in BTC. Nitrogen Sports is the only one I would recommend.

More efficient payment infrastructure is an exciting development for the industry. It enables more users to place bets and more dollars to be wagered. However, this next application goes beyond business efficiencies and crosses into ground-breaking technology.

Decentralized Prediction Markets

Before we dive in, let’s take a step back and review how a sportsbook sets a line. An oddsmaker’s goal is to set a price that maximizes the profits of their book, not necessarily the line that they believe to be the most accurate. The line they set is heavily influenced by public behavior (i.e. what people are betting on), but ultimately oddsmakers will manipulate prices to capitalize on public perception and maximize profits. Oddsmakers will also refuse action from “sharp bettors” with a proven track record for success. This “censorship”, to use a blockchain buzzword, limits the efficiency of the market.

In a decentralized prediction market, users can speculate and wager on the outcome of a specific event. Unlike a traditional wagering market where pricing is controlled by a central operator, pricing in a decentralized prediction market moves entirely based off what users are trading. All data is open and accessible to all market participants, so the risk of asymmetric information subsides and the result is a marketplace driven by crowdsourced knowledge.

You may have heard the term “Wisdom of the Crowds”, which essentially states the collective knowledge of many is greater than any one individual. This ties to the founding principles of economics, whereas markets will approach optimal efficiency as the number of participants in a market increase. If we think of each market participant as a data point, the more data we have, the smarter we get.

TL;DR — As participation grows, decentralized prediction markets should lead to a more accurate store of information.

Traditional wagering markets are far from being a trusted source of information due to the operator’s control over market dynamics. So if we analyze wagering markets solely for the purpose of generating the most accurate information, decentralization becomes a fundamental feature.

If these are so ground-breaking, why haven’t I heard of them?

Prediction markets gained notoriety around the 2020 Presidential election. In the wake thereafter, Vitalik Buterin, a co-founder of Ethereum, wrote a fantastic piece on the state of prediction markets. In summary, he identified (and capitalized on) gross inefficiencies in the election markets, and he breaks down a variety of possibilities as to why prediction markets still lag behind centralized information sources in terms of accuracy.

He assumes one of the main issues limiting scale (and thus accuracy) in current prediction markets was technical complexity, i.e. people don’t know how to use them. In relative terms, Cryptocurrency is still in its infancy, and the process for using some of the more advanced decentralized applications (dApps) is not exactly intuitive. Diversity of market participants is a key feature to achieve “Wisdom of the Crowds”, so the power of these markets will be limited until the user experience is intuitive for a broad set of participants (outside of solely crypto / tech enthusiasts).

One of the more fascinating evolutions of prediction markets would be the concept of futarchy, a form of organizational governance that uses prediction markets to measure the effectiveness of policies. Gnosis (one of the big names in prediction markets) is launching a DAO (decentralized autonomous organization) built around this concept.

Liquidity is the value driver in any marketplace and with total prediction market volume around $1 million per day in 2020, market participants are still limited by illiquidity. Long story short, prediction markets still have a long way to go.

There are significant hurdles but if the markets can get sufficient traders and liquidity, the possibilities are endless.

Alright I’m in, how do I start trading?

Augur was one of the first major decentralized applications (dApps) built on Ethereum, so it is often the first name that comes to mind when referring to prediction markets. Augur verifies the outcome of events through “wisdom of the crowd”, by leveraging it’s network of reporters (who are incentivized to report accurate outcomes).

Some other names to know:

  • Polymarket — information markets platform where you can bet on highly debated topics
  • Gnosis — open platform for creating prediction market applications
  • Omen — Gives anyone the ability to create a prediction market
  • Polkamarkets — Blends DeFi with prediction markets, aiming to solve liquidity issues by incentivizing market makers (still in beta)

I mentioned above that trading in these markets requires some technical expertise, well buckle up, because we are about to review exactly what that means. Prediction markets run on the Ethereum blockchain, so you’ll need a crypto wallet designed to interact with the Ethereum blockchain (like Metamask). Think of this like a gateway to blockchain applications.

After you download Metamask, you need to make sure you have the necessary currency to make a trade. You will likely need a stablecoin (DAI or USDC, depending on the exchange) and ETH for gas fees. Below is an example of the Augur account-funding flow which walks you through the process of converting ETH to DAI.

Polymarket allows you to buy USDC with a debit / credit card, so I’m going to use them as an example for the sake of simplicity. Any time you’re making a transaction with crypto (buying or sending), be wary of the fees. There are exchange fees for transacting in crypto, and mining / gas fees for BTC / ETH transactions.

Anyone who is still reading at this point likely has a deep conviction on BTC, so let’s place a Yes trade on the fact that BTC will be above $55K on 3/15/21.

And voila, I just placed a trade on a prediction market.

Product Manager who has fallen down the crypto rabbit hole