Basics · lesson 09 of 09
Prediction markets vs options
Why an event contract is not a derivative on an asset, and what that changes about the price.
In one minute
- An option’s payoff scales with how far the underlying moves. An event contract pays exactly $1 whether the event happens narrowly or overwhelmingly.
- An option is priced partly by the ability to hedge in the underlying. There is nothing to hedge an event contract with, so its price is opinion rather than a no-arbitrage relation.
- Both cap your loss at what you paid. Only the event contract also caps your gain, and tells you both numbers before you trade.
The payoff shape
A call option pays the amount by which the underlying finishes above the strike, and nothing if it finishes below. The payoff is continuous and unbounded on the upside: being right by a lot pays much more than being right by a little. That is the defining feature, and most of what makes options interesting follows from it.
A binary event contract pays $1 if the stated event occurred and $0 otherwise. Degree does not enter. Two traders who both correctly called that a threshold would be crossed receive identical amounts, whether it was crossed by a rounding error or by a landslide.
The closest option analogue is a cash-or-nothing digital, which pays a fixed amount if the underlying finishes past the strike. The payoff shapes really are the same. What differs is what sits underneath.
A $100 position at 68¢
- Contracts bought at 68¢
- 147
- Payout if it resolves YES
- $147
- Profit before fees
- $47
- Loss if it resolves NO
- $100
What the contract is written on
An option is written on a tradeable asset with a continuously observable price. That asset is the reason option pricing is a mathematical discipline rather than a matter of opinion: you can construct a portfolio of the underlying and cash that tracks the option’s payoff, and the cost of doing so bounds what the option can trade for. Prices that stray get arbitraged back.
An event contract is written on a fact about the world — an announcement, a result, a published figure. There is no tradeable underlying, no continuous price series, and therefore no replicating portfolio. Nothing forces the contract toward a theoretically correct value, because there is no way to construct one and no trade that profits from the discrepancy.
The consequence is that an event contract’s price is the aggregate belief of the people trading it, and that is all it is. It has no implied volatility, no meaningful Greeks and no arbitrage-free level. Calling an event contract a derivative is defensible as regulatory language; it is misleading as a description of how the price is formed.
Expiry, exercise and known bounds
An option expires on a calendar date and is exercised or expires worthless, and its value in the meantime decays as that date approaches — with the rate of decay a well-defined function of time and volatility. An event contract settles when its resolution criteria are met, which can be before or after any date printed on it, and is credited automatically rather than exercised. There is nothing to do at expiry.
The bounds are the other practical difference. A contract bought at 68¢ has a maximum profit of 32¢ and a maximum loss of 68¢ per contract, and both numbers are known at the moment you trade. The ratio between them is fixed by the price: at 68¢ you are risking 68 to make 32, which means the position needs to be right about 68% of the time to break even. A price is therefore also a statement about the win rate you need, which is a useful thing to be told explicitly.
That symmetry has no equivalent in options, where the maximum gain on a long position is not defined in advance. It makes event contracts easier to size and harder to be spectacularly right with.
Why the distinction is not only academic
It changes what analysis is worth doing. Option pricing rewards modelling volatility, because volatility is what the replication argument is sensitive to. Event contracts have no such lever: the only question is whether your probability estimate beats the market’s, and no amount of modelling machinery substitutes for that.
It changes what a mispricing is. An option trading away from its no-arbitrage band is an inconsistency somebody can capture mechanically. An event contract trading away from your estimate is a disagreement, and you may simply be the one who is wrong. There is no mechanism that will vindicate you other than the outcome itself.
And it changes the risks you carry. An option’s residual risks are market risks — the underlying moves, volatility shifts, the position needs managing. An event contract’s residual risks are textual and administrative: the wording may not cover what happened, the resolution may be disputed, and your capital is locked until it clears. Those are the risks worth spending attention on, and they do not appear in any options framework.
Converting to odds you already know
| Contract price | Implied probability | Decimal | American |
|---|---|---|---|
| 10¢ | 10% | 10.00 | +900 |
| 25¢ | 25% | 4.00 | +300 |
| 50¢ | 50% | 2.00 | +100 |
| 68¢ | 68% | 1.47 | −213 |
| 80¢ | 80% | 1.25 | −400 |
| 95¢ | 95% | 1.05 | −1900 |
See it live on Kalshi
CFTC-regulated event contract exchange
Common questions
Is an event contract a derivative?+
In several jurisdictions it is regulated as one, and on a regulated exchange the paperwork treats it that way. Economically it behaves like a digital option on a non-tradeable underlying, which means it lacks the hedging relationship that gives most derivatives their pricing discipline. The regulatory label and the pricing mechanics point in different directions here. Nothing on this page is legal advice.
Can I hedge an event contract?+
Not against the event itself, because the event is not tradeable. You can sometimes hedge against a correlated instrument — an index, a currency, a commodity that would move on the same news — but that is a different exposure with its own basis risk, not a hedge in the replication sense. It is also the reason a lot of institutional interest in event contracts exists at all.
Does time decay affect an event contract?+
Something that looks like it does, for different reasons. As the resolution date approaches, prices tend to drift toward 0 or 1 because there is less remaining opportunity for the outcome to change. And a long-dated contract carries the cost of capital committed until settlement, which holds its price below the probability alone would imply. Neither is theta in the options sense; both look like it on a chart.