2026-01-21
Should you bet on prediction markets?
I consider most of the following dead-obvious at this point, but people without finance background often seem to not be aware of all this. This post is for them.
- Bet sizing and risk tolerance
- As a full-time trader, you are investing a lot of your time, not just your money, and your time may be worth more elsewhere.
- Unless you are willing to lose atleast 10% of your net worth overnight, you don't have the risk tolerance required for high risk betting (such as prediction markets or poker or similar) to be a good use of your time. If your net worth is $10k, this means losing $1k overnight. If your net worth is $100k, this means losing $10k overnight. You should be betting atleast half of what Kelly criteria recommends.
- The main difference between risk tolerance required for poker versus prediction markets is the time horizon. In poker, when you are losing, you typically slowly bleed money per day, and run the risk of going into "tilt" mindset. In prediction market trading, typically nothing much interesting happens for many days, and suddenly your entire bet goes to zero one day, so you again run the risk of going into "tilt".
- I don't have some secret guide for how to increase your risk tolerance, besides practising it more. Maybe being risk tolerant in other aspects of your life can help. The important thing is increasing risk tolerance while still being rational the whole time. Increasing your adrenaline level and then increasing risk tolerance is a bad way of going about it.
- Liquidity
- Make sure the markets have enough liquidity for you to bet. If your net worth is $100k, for example, you should be betting atleast $10k across a few bets. If the liquidity on each market is only $1k, then betting on these is a waste of your time (even if the bets are highly positive EV).
- Vice versa, if there is too much liquidity (like more than $10M), expect to be competing with professional firms that employs hundreds of people. Prefer betting only if you have some plausible reason for why they might be getting it wrong.
- There is a sweet spot in terms of liquidity where you should be betting, not too less and not too high.
- Arbitrage
- Illiquid markets are sometimes slow to get arbitraged. Maybe you can attempt arbitrage bets. (I haven't usually done much of this, but it seems doable, and I've seen people do it.)
- Maximise sharpe ratio (or similar criteria) not EV
- It is not sufficient for your bets to be positive EV. They also need to be positive EV for your given risk level (which is quite high). In the context of prediction markets, this means you and other traders will be avoiding many positive EV bets. Prediction markets are expected to be atleast somewhat inefficient, unless they have >$10M liquidity (which is rare).
- Pay a lot of attention to time horizons
- Betting on a market that says 90% yes and expiring next month, has a very different rate of return as compared to a bet that says 90% yes and expiring next month, assuming your actual prediction is, let's say, 98% yes. Actually calculate your rates of return (monthly and annual), so that you can benchmark your returns against the S&P500 or your day job.
- Always paper trade (with imaginary balance or tiny balance) for few months, before betting real money.
A lot of the rest of the advice you need is just standard trading advice, which I won't be repeating here.
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