TLDR Tech / Crypto
Market Making in Prediction Markets Sucks
Prediction markets have fragmented liquidity across venues with no fast arbitrage equalization, evidenced by an XRP contract exploit on Polymarket in January, where thin weekend liquidity allowed a trader to push the price to 70% on a 0.3% spot move, netting $231,000. Analysis of 72M Kalshi trades and 150M Polymarket trades shows the top 5% of skilled traders captured $228M over three years through persistent wealth transfer from uninformed takers, while passive LPs absorb binary-outcome inventory risk without earning typical bid-ask spreads. Without a Black-Scholes equivalent for prediction markets, current mechanisms, including LMSR, CFMMs, and order books, guarantee expected losses for makers. The proposed solution routes orders across venues, pools fragmented liquidity with a native RFQ layer, and tracks cross-market implied belief volatility in real time.
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