Prediction markets run backlash risk, Jefferies analyst says
Although prediction markets have seen rapid adoption in the US, they court the peril of legal resistance and adverse court decisions in 2027. At present, they’re the beneficiaries of an “enforcement-light” Commodity Futures Trading Commission.
Those were the views of Jefferies Equity Research analyst David Katz in a 1 April investor note.
Still, Katz saw positive near-term and mid-term prospects for prediction-market operators. That included nascent offerings by FanDuel and DraftKings, which are new to event contracts.
Compared to the “intensive and exhaustive review” that individual states subject gaming industry employees to, those in the event-contract business face only “minimal mandated enforcement,” Katz wrote. He also contrasted the multi-million-dollar licensing fees in gaming to those for prediction markets, which ran only to the thousands.
Lastly, while gaming operators pay anywhere from 10% to 50% of their revenue in taxes, prediction markets represent a tax shelter. Nor are any of the following safeguards required by the CFTC: self-exclusion; loss limits; time limits; problem-gambling measures or responsible-gambling messaging.
Prediction markets are besieged in the courts on a variety of fronts, as individual states took different tacks, per Katz’s observation. Nevada, for instance, has focused on the alleged usurpation of state authority by the federal government.
Ohio has challenged what constitutes a “swap.” California tribes are defending their Indian Gaming Regulatory Act-enabled exclusivity and Massachusetts is suing over whether Congress intended for sports betting to be conducted via event contracts.
“We see material political risk stemming from limited customer protections in prediction markets,” Katz wrote, “creating potential for negative player outcomes and subsequent regulatory backlash.” He noted that controls imposed by Kalshi were voluntary and could be revoked at a whim “and, therefore, provide less assurance than the statutory requirements applied to OSB/igaming.”
Were the CFTC to tighten its regulation of event contracts, a long-term risk could become manifest, Katz continued. But while the matter seemed almost certain to be litigated all the way to US Supreme Court, how the high court eventually rules may depend on which state-level case it chooses to hear.
Katz thought a SCOTUS ruling the likeliest outcome. However, “Congress could also clarify the Commodity Exchange Act’s definition of a swap to exclude sports and/or political contracts,” and bills to do just that have been filed in both houses.
The analyst also thought it possible, if highly unlikely, that state-by-state compromises could be achieved. In this scenario, states would legitimize, regulate and tax prediction markets.
However, disincentives would include the potential cannibalization of existing sports betting revenue and prediction-market operators’ reluctance to surrender their tax-free standing. Were they to do so, Katz projected the potential tax haul at US$2 billion a year.
For risk-averse operators, Katz recommended non-sports event contracts as the way to go. In terms of Kalshi’s trading volume, they have gone from 11% in September to 23% in February. “In our view, this segment offers operators a path to reduce future legal and regulatory exposure,” the Jefferies boffin opined.
Katz concluded by offering that the American stock market had excessively feared the rival effect of event contracts on DraftKings and FanDuel parent Flutter Entertainment. “We see an increasingly favorable asymmetric outcome for OSB operators,” he continued.
Were prediction markets to be definitely legalized, Katz argued, the scale of DraftKings and FanDuel would give them an advantage. If not, competition would be forced to the sidelines, a win-win scenario for the OSB giants.
David McKee is an award-winning journalist who has three decades of experience covering the gaming industry.
Verticals:
Sectors:
Topics:
Dig Deeper
Related stories
2025/09/16: Flutter, FanDuel “on the sidelines” of prediction-market scrum, legal expert says
2025/10/03: Prediction-market fears overhyped, analyst says
2025/07/03: Higher taxes to crimp DraftKings earnings but not Rush Street’s, Jefferies analyst says
2025/06/10: FanDuel user fee not likely to spread past Illinois, Jefferies analyst says
2025/09/16: Flutter, FanDuel “on the sidelines” of prediction-market scrum, legal expert says
2025/10/03: Prediction-market fears overhyped, analyst says
2025/07/03: Higher taxes to crimp DraftKings earnings but not Rush Street’s, Jefferies analyst says
2025/06/10: FanDuel user fee not likely to spread past Illinois, Jefferies analyst says
The Backstory
Why this flashpoint matters now
Prediction markets have moved from novelty to flashpoint as operators test the boundaries of federal oversight and state control. The fast rise of event contracts has rattled online sports betting incumbents and invited a tangle of lawsuits that could set national precedent. Analysts say the attraction is obvious: lighter-touch federal rules, lower fees and, for now, fewer safeguards than regulated sportsbooks must carry. But the legal and political risk is rising alongside volume, and the outcomes could reshape how Americans wager on sports and current events.
Industry watchers have been warning that the status quo was never likely to hold. The key questions are whether Congress meant for the Commodity Futures Trading Commission to referee sports outcomes, how far states can go to block federally blessed markets and how long established sportsbook operators can afford to wait on the sidelines.
The legal chessboard: swaps, preemption and state pushback
Litigation has become the main arena for defining event contracts. In a September briefing summarized by Jefferies, gaming law expert Daniel Wallach mapped three likely endgames: congressional clarification that sports are out, a Supreme Court decision or convergence among lower courts on where a “swap” ends and a wager begins. Until then, he argued, uncertainty favors the exchanges. He said online sportsbooks will remain “on the sidelines” with minimal impact until the dust settles. His analysis highlighted that courts have leaned toward Kalshi’s interpretation of swaps having a commercial economic purpose that can include sports, though several prior laws could swing the other way in favor of states.
States are testing different routes. Wallach noted that Massachusetts’ choice to sue in state court may sidestep federal preemption claims, and he said California tribes could press a strong case under IGRA and geofencing practicality. The fragmented approach increases the odds of a patchwork until a federal fix arrives, if it arrives at all. Wallach also pointed to political crosscurrents that could drag out timelines, including the role of high-profile advocates connected to prediction platforms. His bottom line: resolution is likely a year or more away, which keeps exchange operators active in states where sportsbooks are still illegal and keeps legacy operators cautious.
Wall Street’s whiplash and an early courtroom signal
Markets have reacted sharply to each new product tease and filing. In October, J.P. Morgan’s Daniel Politzer argued the selloff in DraftKings and Flutter was overdone after Kalshi’s latest move, saying investors were underestimating entrenched product advantages and scale at big sportsbooks. He also flagged an early legal datapoint from Nevada: a federal judge rejected a bid to classify sports-event contracts as derivative swaps in a case involving Crypto.com, a reading that limits a key argument for exchange-style operators in at least one venue. Politzer’s view was that clarity, when it comes, could either shut off sports prediction markets or greenlight incumbents to enter with superior distribution and branding.
The analyst pushed back on fears that exchanges will compress sportsbook margins or capture outsized share. He questioned whether a peer-to-peer model can amass the capital depth to absorb NFL-scale volatility and match parlay economics. Still, he warned that first-mover advantage could harden in big non-OSB states like Texas and California if exchanges keep operating unchecked, raising the stakes for both sides in the courtroom and on Capitol Hill.
Strategy under pressure: wait, hedge or jump
Both Jefferies and J.P. Morgan say large operators are balancing opportunity and risk. Politzer called sports prediction markets “too good to pass up” in early September, projecting sizable upside if DraftKings and FanDuel could offer exchange-style products in non-OSB states via federal permissions. He framed a path where brand reach and database marketing give incumbents an edge once the legal lane opens. But he also detailed the political blowback that makes a full-throttle push risky: objections from tribes, state regulators, leagues and responsible gambling advocates centered on tax circumvention and lighter consumer protections.
Jefferies’ read from Wallach reinforced a wait-and-see posture for Flutter and DraftKings. If courts ultimately bless sports as eligible swaps, the big books can enter fast with scale. If not, nothing changes and the disruption risk recedes. In the meantime, exchange operators can reach customers in prohibition states, pulling attention and potentially setting user habits, while sportsbooks weigh whether interim moves would jeopardize future legalization campaigns or tribal partnerships.
Taxes, fees and the shifting economics of choice
While the legal fight unfolds, rising state taxes are pushing operators to rework pricing and could unintentionally make prediction markets look cheaper to some bettors. Flutter’s FanDuel will impose a 50-cent per-wager fee in Illinois to offset a progressive handle tax, and Jefferies expects DraftKings to mirror the move. The firm estimates the surcharge will mostly drop to cash flow with limited impact on market share, though it may trim handle growth. The analyst does not see the Illinois model spreading widely, but it underscores how state policy can reshape cost structures in ways customers feel directly.
Jefferies also expects higher taxes and the cost of entering prediction markets to dent DraftKings’ near-term numbers. In July, the firm projected lower 2025–26 earnings versus prior estimates, citing new state levies in several markets and a placeholder cost of $100 million to pursue prediction-market wagering. The forecast still backed a bullish sector view, but it illustrated the tradeoffs: higher taxes pressure sportsbook pricing power, while exchange products dangle lower-fee alternatives for price-sensitive users if they remain available.
The stakes: consumer protections, state revenue and first-mover lock-in
At core, this fight is about who sets the rules and who captures the economics. States see a risk that federally sanctioned exchanges siphon wagering volume without sharing in tax revenue or meeting state-level safeguards. Tribes view potential erosion of exclusivity compacts. Leagues and advocates warn about integrity and responsible gambling gaps. Analysts say if Washington or the Supreme Court bars sports-event contracts under commodities law, the challenge fades and sportsbooks revert to business as usual. If courts bless them or Congress carves out a path, the largest incumbents will likely enter and compete on product and scale.
Between those poles lies the status quo, where exchanges can build a beachhead in states that have yet to legalize sports betting and test demand for new formats, while sportsbooks calibrate fees and promotions to cope with rising taxes. Investors are trading that uncertainty with each court filing. The outcome will determine not just who wins share, but whether consumer protections and tax frameworks follow the action or chase it.
