Betting on Everything

Few in the business and legal community are talking about the national legalization of sports gambling that has just occurred. For the last few months, anyone, in any state, has been able to place wagers on the outcome of professional baseball, basketball, hockey, and tennis matches, among other sports—even in states like Texas and California that ban sports gambling. How did this happen?  Kalshi, a CFTC-registered derivatives exchange, has (so far) won a series of legal battles allowing it to list ‘sports-related event contracts’ to be traded. And since federal derivatives regulation preempts state law, courts have (again, so far) sided with Kalshi in saying that these contracts are legal.

The collision between sports betting and derivatives markets is just one example of the gradual line-blurring that is taking place between gambling and investing. The rise of cryptocurrencies, meme stocks, exotic ETFs, zero-day options, and fractionalized consumer goods—all fueled by zero-commission brokers and app-based trading—has led many retail markets participants to view a number of investing and gambling products as essentially substitutes.

Betting on Everything, my new forthcoming article in the Boston College Law Review, examines posited distinctions between investing and gambling through the lens of these recent innovations and behaviors. This question matters because the two activities face disparate regulatory schemes.  For nearly a century, federal agencies like the SEC and CFTC have regulated investing, and state gambling commissions have regulated gambling. Although there are some important exceptions, this division of authority has largely held.

Two major changes took place in the past decade that have upset this balance. First, the Supreme Court’s decision in Murphy v. NCAA allowed states to legalize sports gambling. Nearly three-quarters of states have done so, creating a nationwide market with patchwork regulation. Second, CFTC-registered derivatives exchanges began offering event contracts—a form of derivative whose payout is determined in a binary fashion based on whether a certain event does, or does not, occur—on an expanded variety of topics, from various economic indicators to the weather in Cincinnati.

When Kalshi began offering event contracts that paid out based on the outcome of the 2024 presidential election, the CFTC tried to ban them. It also proposed a rule banning political and sports-related contracts. But the CFTC’s arguments failed, and federal district and appellate court judges sided with Kalshi. After its election contracts became legal, Kalshi started offering sports-related event contracts, which state gaming regulators have been unable to enjoin.

In the Article, I analyze the five arguments the CFTC made for banning political and sports-related event-contracts as a form of gambling, rather than investing. The CFTC argued that these derivatives lack hedging and pricing utility, rely on opaque information sources, allow for market manipulation, and harm retail investors. Each arguments fails to differentiate gambling products from investing products. There are some legitimate hedging uses for these contracts, and all event contracts—not just those related to politics and sports—lack pricing utility. The problems of opaque information sources and market manipulation are present in all markets. And retail investors are increasingly experiencing harms similar to gamblers, including a significant rise in day-trading addiction.

Since these justifications fail to distinguish investing from gambling, the Article proceeds to survey the legal, economic, and historical academic literature to synthesize five posited distinctions between the two activities: information-gathering potential, risk profile, time horizon, existence of an underlying asset, and extant risk.

The first four of these distinctions also fail to differentiate investing from gambling. Research and data can help investments succeed, but they are also helpful for many types of gambling. There are both risky and safe ways to both invest and gamble, so the degree of risk of a given financial product does not distinguish one type of activity from the other. Similarly, there are forms of investing and gambling that match to both long and short time horizons. And while some investments involve recourse to an underlying asset, the vast majority of futures transactions have speculators on both sides, neither of whom owns or plans to purchase the underlying.

The only viable way to differentiate investing from gambling is whether a financial product enables a business to reallocate real-world risk, rather than create an artificial risk to sell. Because political and sports-related event contracts allow some businesses to reallocate real-world risk, they look in some ways more like investing than gambling.

But that is not the end of the inquiry. Instead, two further questions should be asked.  First, what real-world risks should businesses be allowed to transfer? And second, how many businesses legitimately transferring risk should we require before we are willing to say a market is truly an investing market, rather than one made up almost entirely of speculators?

While the Article does not seek to answer these two questions, it does provide two further insights that flow from the above analysis. First, all markets that involve the reallocation of real-world risk are ultimately about predicting the future. Those with the best data and algorithmic models will be best at making these predictions, across all markets. This is why hedge funds are getting into sports gambling and event contracts. The underlying mechanisms and skills necessary for success are the same as in financial markets.

What this also means is that retail markets participants, without access to reams of data or sophisticated algorithms, are fated to trade poorly in every market. On average, studies show that retail investors lose money trading individual stocks and derivatives, in the same way that they (on average) lose money gambling. Given this situation, the Article closes by suggesting that more protections are needed for retail markets participants—including potentially limiting how much money they can invest in certain financial products.

Although this response may seem extreme, there is precedent for these sorts of regulations. Private offerings under Regulation A and Regulation Crowdfunding both allow unsophisticated, non-accredited investors to purchase securities up to a certain percentage of their income or net worth.  Similar limits could be placed on other financial products—whether one wants to call them investing or gambling—that are risky and prone to losses for retail investors.

The full article can be accessed here.

Karl Lockhart is an Assistant Professor of Law at DePaul University College of Law.