4Alpha Research Researcher: Can Trump be elected president? Will the U.S. economy fall into recession? Will the Solana ETF be approved this year? When will GPT-5 be released? Will there be significant upgrades in the iPhone 16? There are too many questions in this world that are closely related to our lives, ranging from big to small, but they all share a commonality: search engines absolutely cannot provide answers. Prediction markets offer a supplement to search engines, allowing people to obtain "conclusions" rather than "analyses," as all analyses are hidden behind the odds. The views in this article do not constitute any investment advice.

What is a Prediction Market?

A prediction market is a trading market that focuses primarily on "events," unlike general betting platforms. Users can buy and sell "contracts" on the "outcomes of future events." Essentially, it is a binary options market where winners receive profits based on a ratio from the losing bets, while losers lose their entire principal.

By buying and selling contracts, users are essentially "betting" on what they believe the likelihood of an event is, and thus the price of the contracts reflects the market's view on the probability of the event occurring.

The goal of a prediction market is to harness the collective intelligence of numerous users' trading behaviors to accurately assess the probability of an event occurring. For example, if the contract price for the event "Trump elected president of the United States" is 60, it means the market believes there is a 60% chance of it happening.

Breaking Down the Hottest Prediction Market: Polymarket

Polymarket is a prediction market built on Polygon, allowing users to purchase USDC for betting directly through Moonpay using traditional payment methods, without the need for complex operations like wallet binding. It is user-friendly for non-Web3 users as it does not involve concepts like Gas or signatures.

Currently, Polymarket's data performance is strong, with betting volume reaching $387 million in July and daily trading volume reaching millions of dollars. The event regarding the U.S. presidential candidates alone has over $550 million in unsettled contracts. Additionally, according to data from Dune, the number of active users on Polymarket has been continuously growing this year, with the highest weekly active users exceeding 23,000. Polymarket has become an important reference for public opinion in the presidential election, and even Trump himself has repeatedly shared data showing his leading odds on Polymarket.

The Rise of Polymarket is Supported by Several Factors:

1) A sufficient number of quality events: 2024 has been full of topics, from Bitcoin and Ethereum ETFs to the U.S. elections and the Olympics.

2) The connection between the crypto market and policies, regulations, and the economy is closer: In the past couple of years, the factors causing the most significant price fluctuations in the crypto market have often been external macro changes rather than the development status of crypto itself. This has led more crypto-native users and funds to pay attention to macro changes and prediction markets, as prediction markets provide simple "conclusions" on many macro topics.

3) Improved infrastructure: When the prediction market concept was booming in 2019, custodial wallets, deposit and withdrawal services, and public chains were not well-developed, limiting user access. Many prediction markets at that time were built on Ethereum, where issues like difficult deposits and inability to place bets frequently occurred.

In addition to favorable timing and conditions, Polymarket has also made many optimizations at the product level compared to previous prediction markets.

Past prediction markets typically had the following pain points:

1. High entry barriers and incomplete infrastructure, requiring understanding of wallet usage and other concepts.

2. Complex and difficult-to-understand products, as prediction markets are a combination of casino, options, and other models, often designed too complicatedly.

3. Insufficient liquidity and counterparties.

4. Difficulty in balancing freedom in event creation with clear standards.

5. Regulatory risks; prediction markets have existed since ancient times but have always been restricted by centralized powers.

6. …

Although Polymarket has not completely solved the above issues, it has still innovated or optimized to some extent in response to these pain points.

1) Optimizing product UI/UX to lower usage barriers

We can compare the user experience of Polymarket a few years ago with today's experience through some collected data images.

Comparing the Beta version of Polymarket with the current version reveals that using Polymarket is now simpler and the path is smoother. For example, the homepage now directly lists all the hottest "events" on the platform, allowing users to place orders directly without entering secondary pages. Additionally, the user participation logic revolves around "how much to invest & expected returns," rather than the "cost" of each bet. The probability of winning each bet, expected returns, pool size, and other relevant data are fully displayed before placing an order. The platform also supports creating wallets and depositing using completely Web2 registration and payment methods, without needing to understand blockchain or Gas concepts.

2) Abandoning mechanism innovation and providing liquidity through incentives

In some ways, prediction trading is very similar to the NFT market; any event can be traded on any prediction platform. Liquidity is one of the decisive factors affecting user choice, as sufficient liquidity allows users to profit not only from correctly predicting event outcomes but also from market fluctuations regarding event judgments.

Polymarket uses an order book as the mainstream settlement method, where market makers can provide liquidity through limit orders to earn rewards. The closer the order price is to the market price, the greater the reward. This model sounds quite similar to Blur, doesn't it? In fact, all positions held by Polymarket users are in ERC1155 format, but the inspiration for this liquidity incentive actually comes from dYdX.

3) Increasing content supply and decentralized settlement as much as possible

Polymarket has a dedicated channel within its community for community members to suggest events, allowing the team to stay informed about various events worldwide and ensure a continuous supply of platform content. It also uses UMA's oracle to decentralize the settlement of events. A rich supply of events is fundamental to the platform's long-term survival, as popular events like the U.S. elections and the Olympics are not frequent, and "events" themselves are "content" rather than "games." They cannot exist long-term like "slot machines" or "baccarat." Therefore, the ability to continuously and quickly provide consumable content will directly impact user retention.

In these aspects, Polymarket has addressed some of the issues faced by past crypto trading markets to a certain extent, laying the foundation for its explosive growth. In addition to the product, Polymarket has also invested heavily in user marketing, including Reddit channels and WallStreetBets.

Despite all that Polymarket has done, there are still areas for improvement, and future innovations in prediction markets may focus on these aspects:

1) Insufficient liquidity may be a long-term issue

Events will ultimately have clear outcomes and are not entirely manipulable. Market making for events relies on understanding the events themselves. If market making is done blindly just for incentives, it may lead to losses. The requirements for liquidity providers in prediction markets differ from those in other markets.

2) Token utility is difficult to design

Since betting must use stablecoins, otherwise the ticket value will fluctuate and affect the prediction results. Therefore, when designing tokens, empowering them to integrate into the platform's core gameplay can be quite challenging. If the platform token is merely a governance token or liquidity incentive, it may face a situation where the token price continuously declines, negatively impacting platform traffic.

3) Low conversion rates and difficulty in customer acquisition

Currently, the conversion rate for prediction markets does not seem high. The left side of the chart below shows the traffic changes on the Polymarket website, with the highest number of unique visitors in a single day in July reaching nearly 200,000. However, the highest weekly active user count in July was only 20,000. In addition to low conversion rates for new visitors, the conversion rate from new users to trading is also not high. Although the number of active users in May grew exponentially, the trading volume did not correspondingly increase, indicating this issue. We speculate that the high entry barriers and the gambling-like nature of the gameplay may be potential reasons.

4) There is still a distance from decentralization and fairness

Currently, to ensure fairness, Polymarket uses a settlement mechanism based on the decentralized oracle UMA, which resolves disputes through token voting to confirm event outcomes. This introduces a certain degree of centralization risk, making it only relatively fair. A notable controversial event was regarding whether the ETH ETF would be approved. Ultimately, the community did not anticipate that only the 19b-4 form was approved, excluding S-1, and under the UMA mechanism, it was unanimously considered that 19b-4 also counted as approval. Since events are often off-chain, they sometimes lack clear settlement points, leading to similar events recurring.

5) Event betting is not purely gambling, and increasing participation in non-election-related events is challenging

Data shows that by the end of July, election-related event trading volume on Polymarket accounted for 61.63% of the platform's total trading volume, and this proportion has been increasing with the influx of new users, reaching around 82%. Before May, the trading volume of election-related events was around 50%. This may indicate that a large number of new users are focusing on election-related events.

We believe the core reason behind this is that the difficulty of predicting events leads to high participation barriers. Participating in event betting may even be harder than MEME speculation because event betting is not purely gambling. On one hand, stable and mature fields like sports and esports already have too many competitors and fixed audiences, giving prediction markets no advantage in competing for these users. On the other hand, events outside of sports and elections often exhibit a "different industry" phenomenon, increasing the difficulty for users to participate.

The decline in popularity after the U.S. elections is inevitable, but the platform has long-term stickiness, and this round of explosive growth has left a legacy.

Considering that election-related event trading volume can account for up to 80% of the total trading volume on the platform, it is almost inevitable that the popularity of prediction markets will decline after the U.S. elections. However, even so, prediction markets are certainly not a flash in the pan. This category will continue to develop as it addresses the aforementioned issues for the following reasons:

1) Prediction markets have a solid historical user base. Prediction markets are not new; the earliest modern form originated from the Iowa Electronic Markets in the 1980s, used to predict U.S. presidential elections. Subsequently, prediction markets gradually attracted interest from academia and business, being applied in finance, business decision-making, and public policy. With the development of the internet, online prediction markets like Intrade and PredictIt became increasingly popular, with similar platforms worldwide. However, due to regulatory issues, these platforms have generally either shut down or can only use worthless points for betting, unable to reach their maximum potential. As the crypto version of prediction markets gradually improves, the golden age of prediction markets is bound to arrive.

2) Elections will end, but political topics will not. Therefore, while the attention on events may decrease, the supply of events will never be an issue. Prediction markets like Polymarket have navigated through cycles in this manner. On the other hand, the world is moving forward amid instability, with geopolitical conflicts and economic crises affecting people's nerves. In this turbulent, information-explosive era, the demand for "conclusions" will ensure that prediction markets always have a certain flow.

3) User stickiness is strengthening, with 15% - 25% of users converted into long-term users. Since Q3 2023, there has been a significant increase in the long-term retention of new users, indicating that the product logic was validated before the explosive growth. Additionally, with the influx of a large number of new users, the average number of transactions completed by users has not decreased; in July, there was even an upward trend, which also indirectly indicates that the platform's new user retention rate and participation level are high, and the overall average transaction volume has not been lowered due to the increase in the proportion of new users.

Prediction markets deserve long-term attention. In our view, crypto-based prediction markets still have three major potentials that have not been fully tapped:

1) Anyone can create events and have ample liquidity. Dragonfly's Schmidt once said, "Polymarket's ultimate secret weapon is that the platform will allow ecosystem participants to autonomously create new bets, a model that is hard for traditional financial competitors to replicate. It's like YouTube compared to television." So far, this has not been fully implemented on Polymarket, and we look forward to a platform that can effectively combine event creation and liquidity provision, perhaps waiting for AI's involvement.

2) Everything can be predicted in media. Prediction markets are still constrained by ethical and policy limitations. In June 2023, a tweet about the missing Titan submersible went viral, and users on Polymarket bet over $300,000 on whether the missing submarine would be "found before June 23." This sparked criticism of the profit-driven nature of prediction markets from an ethical perspective, with attacks labeling it as "making money from death," forcing Polymarket to respond and clarify. This invisible ethical pressure can limit event creation, but if we think from another angle, viewing "profit" as the cost of tapping into collective intelligence, the range of topics that prediction markets can accommodate would be much broader. Prediction markets have the potential to become a provider of the richest thematic content, even evolving into a new social media platform where discussions and predictions occur in one place.

3) As a supplement to search engines, prediction markets provide the "conclusions" most needed in the era of information explosion. Many advocates of prediction markets claim that they will provide the "truth" people need, but this statement somewhat exaggerates the role of prediction markets, as collective intelligence is still far from the "truth." However, prediction markets can still provide something important: "conclusions." In our view, "odds" are similar to "K-lines," as they only provide numbers but encapsulate all analyses within them, representing the crystallization of collective intelligence. Many times, such a clear conclusion with a probability is sufficient to assist people in making judgments.

Other Insights from Polymarket's Explosive Growth

The ultimate fate of prediction markets has yet to be determined, and whether Polymarket can become the final winner remains uncertain. However, its development journey can still provide many insights for market participants, such as:

1. Focus on applications; the imperfection of infrastructure can no longer serve as an excuse for the absence of excellent crypto applications: Past prediction markets were indeed limited by Ethereum's price and performance, but now there are enough alternatives. Polymarket is even built on Polygon, a previous generation scaling solution. Therefore, even if the current infrastructure may still not meet the needs of tens of millions of daily active users, it is sufficient to create excellent consumer products that can validate demand among a small user base.

2. The infrastructure for lowering barriers is basically sufficient, whether it is fiat currency exchange, email registration, or gas-free interactions; it is time to look beyond crypto users.

3. Perhaps there is no rush to look at the global market; it may be better to focus on validating product demand in a specific market: Before being banned in the U.S., over 80% of Polymarket's users and traffic came from the U.S. The openness of crypto makes it easy for entrepreneurs to aim for "global users" right away, but ultimately, the manpower limitations of startups often lead to promotional goals becoming "global on-chain users." This user base has lacked growth for many years, has relatively single demands, and is profit-driven, leading to extremely fierce competition for existing users.

4. For startups, deciding the timing of financing news disclosure is crucial, as opportunities to gain attention are limited, and it is best to develop quietly before the product is ready.