Prediction markets: A new market signal

0:00Hi, it's Ronnie. Welcome back to the Barclays Brief. It's Monday, April 13th, and I'm here in the studio with our U.S. gaming analyst, Brandt Montour. Brandt, great to have you here for your first time on the pod. Welcome. Awesome to be here, Ronnie. Thanks for having me. So listen, I invited you for a reason. I'm totally overwhelmed by the way prediction markets have become all the rage lately. They're everywhere I look and now hearing what the polymarket odds of something are when discussing financial markets or political outcomes has pretty much become ubiquitous. And this wisdom of crowds approach is proving powerful in a lot of important ways.

0:36Can you please walk us through the evolution of prediction markets, how we got here and why the growth has been so rapid? Yeah, it's probably the most fascinating theme to emerge in my space in 10 years. I mean, it's up there with the U.S. legalizing sports betting. What prediction markets are are essentially exchanges that you can bet on either side of a market of a specific thing happening, an event, a basketball game. And you can watch the chance of that thing occurring in real time, which as a gaming analyst, we know a lot about consumers and their dopamine hits. Well, this plays into that.

1:15But the output of this market is a constantly evolving prediction value, if you will. Right. And some people call it a truth machine. I'm not going to opine on that, but it's very easy to see why, you know, why it's becoming so popular so fast. I mean, the media, right. They want to combine it with a news story in that combined. Right. You're talking about an event, a news story. You're going to put a percentage chance of that event coming or happening. You put those together. That's a very ingestible piece of content or a product for your consumers. It's a lot of free marketing for the prediction market companies.

1:43I mean, and the production markets know that, right? They've been playing into that. The banks, the banks are also net proponents, it seems so far, because it's kind of hard to hedge these exact events happening. You have to use, right, liquid financial products that already exist, and there's a tracking error. It's not perfect correlation. So that's appealing for them. And then of course, politicians are getting involved because of the potential risks and fallout. Okay. So these markets are clearly going from niche markets to mainstream. They definitely feel mainstream to me. In your eyes, how big can these markets be?

2:14What's the TAM here? Yeah. So good question. Looking at the volumes right now, the annualized volume run rate for prediction markets are somewhere between$125 and$150 billion of total volume. That's like dollars staked. And you can think about that in a very small percentage point amount of revenue from that in terms of the take rate. So you're talking about low to mid-single billion dollars of revenue right now for the prediction space overall, you can easily double that on just on sports in our view. And then I would even round that up based on sort of how adults have bet sports historically.

2:49But you can even round that up because this product engenders more activity, more action. People, you know, maybe used to put a bet down in a game and now, you know, they feel a need to trade it the whole game, maybe trade it before the game and put down multiple bets and close those bets. And it really kind of encourages that kind of behavior. And then there's this sort of non-sports tam, right? Where like, I don't know if Taylor Swift is going to drop her album tomorrow. That's not my area of expertise, but someone does know that and wants to bet on that. And I think the prediction markets have a vision of like everybody betting on everything all the time and it becoming this sort of new age form of investment.

3:25We're not going to opine on that, but you clearly see the moonshot angle that it could be very big. What's really interesting, Ronnie, is, you know, I sound like I'm a big fan of this. it's actually not impacting our existing digital companies as much as you think in terms of like their businesses. And that's because if you're in a New York or a state where sports betting is legal, you know, the Calisches of the World Prediction Market product doesn't really stand up perfectly with those products, right? Those products have more breadth and more options. And so, you know, I think that historically we've seen a lot of the sports gambling, sports betting professionals go to these markets first and retail don't really switch over.

4:05So a lot of this is from states where it's not legal, but prediction markets have a lot of hype and they are taking future growth away from the incumbents. And so you've seen this massive shift of valuations from public players, DraftKings and Fandle. They've lost about high 40s, $49 billion of equity valuation between the two of them since what we call Black Monday, which would be the Monday that Calci launched Parlay betting in the early NFL season last year. And then the private market valuations for the two big prediction market platforms are around low 40. So it's almost been a perfect shift from public equity valuations to private equity valuations.

4:44Okay. So this market is on its way to being a massive market. The value has moved from public to private from a valuation perspective of late. Just put a finer point on the difference between prediction markets and regular sports betting for me and the listeners, because I think that's important. Yeah, that is important. So prediction market, like I said, the prediction markets are an exchange. Prediction markets are envisioning a world in which, or a market that is peer to peer, right? You are betting against someone else. So when I lose, I should just feel better because I'm just losing to another person versus some company or bookmaker.

5:17You're losing to someone that you may have an edge, but at least it's a fair edge against you. Whereas a bookmaker clearly is, you know, not as appealing to some folks. I think that that's, it's an interesting topic because, you know, these markets aren't, these markets aren't all peer to peer yet. That's one. Two is that in the UK we've had, you know, there's been an exchange in the UK for 25 years, right? And that exchange makes up about 9 % of the total market of sports betting in the UK. And you're like, well, why isn't it, why isn't it bigger? Is that the ceiling? It may be the ceiling. What happens is retail bettors eventually leave those markets.

5:53And the reason why is because sports books can provide more depth, more breadth of markets. They don't have to go find or they don't have to build liquidity into each one of these markets. They are the liquidity. And then they also know you as a better. They know you're not a professional better a lot of the time. And so they're able to give back promotions and freebies to you to keep you in the system. So, you know, it's hard for us to envision prediction markets ever having as good of a product as the digital bookmakers are able to provide. Let's talk about the regulatory dynamic because this feels pretty important to me.

6:26You recently wrote a piece about how state and federal opposition is mounting. Take us through some of the issues and arguments on both sides, please. Yeah, look, the states currently regulate all gambling, right? States for a long time, gambling, including sports betting. And so that includes taxes, that includes problem gambling. It's all kind of very important guardrails that have been evolved and put in place over the last decades. Prediction markets are trading contracts via swap and they're, you know, they're underneath the jurisdiction of the CFTC, which is federal. And so there's countless lawsuits right across the country right now between states and prediction markets and states versus the CFTC themselves.

7:05So as of today, prediction markets, they're marketing themselves as sports betting, right? Even though that, you know, they're saying that they're trading institutions or trading markets, but they are, you know, they're marketing themselves to the consumer as sports betting. All right. We've seen a lot of things hit the mainstream of late that had a lot of momentum for a period and then sort of fizzled out, particularly from a consumer lens perspective. Is this a fad in your eyes or are we really going to live in a world where from here on out, everybody's just going to want to wager on everything?

7:35No, it's not going back in the bag. The cat's out. Can I make a bet on that? You can watch it real time. It's been trading during our call. Look, you know, watching a real world event play out on a market in real time, I think has sort of endless streams of dopamine for folks. So no, I don't think it's going away. And I think that there is staying power for both sports, which is the easy part. That was the easy part to scale. That's the one that there's an installed base of users that already do this. I think that prediction markets, frankly, have opened the door for a whole new subculture of professional sports gamblers that are doing it a different way than they used to.

8:14Back in the day, if you were a professional gambler, the hardest part of your day was getting the action down. You bet over$10 ,000 or$15 ,000 on a market, and you're getting cut off. You had to literally have beards running around placing your bets for you. And now, this is sanctioned activity. You're doing it legally, and they'll take as much action as you want to give. So it feels like this is heading into megatrend territory. Let's look at it through that lens and think about it from an investing perspective. How do you make this bet in traditional financial markets? And how's that exposure priced in your view?

8:50We look at a lot of stocks through the lens of upside downside, right? And in this scenario, the downside is pretty much priced in, right? A lot of the growth is really being sort of taken away from these guys. That's what the stocks are telling you today. Whereas, look, there is a lot of upside scenarios that work out. Either the regulatory environment could go back into their favor, But also they're going out on the offensive and trying to build their own prediction market platforms. Either of those positive scenarios, there is nothing in the stocks for those. And so, you know, look, when you think about like, all right, well, why wouldn't I invest now?

9:24Well, look, there's a time horizon element here and it's going to take it could take one to two years to get clarity on that, you know, on that competitive environment, on that regulatory backdrop. And so that's a long time to wait. I mean, the investors that I speak with, like they think this is a very attractive risk reward, but the time horizon is the problem. And I think that's that's the problem is, you know, what what is your time horizon? What's your end game? And can you and can you and can you stomach the weight? Fantastic to have you here. I definitely learned a lot. And I would bet that you'll be back soon.

9:58Thanks, Ronnie. Thank you. In summary, there's something very significant happening here. It continues to amaze me how people use these prediction markets as a live signal to process news, politics, and markets in real time. It's going to take a while to find the right end state, but I feel like this is here to stay and worth paying attention to as an investor. Thanks for listening. Please hit subscribe wherever you listen to your podcasts, and we'll be back at the same time next week.