Prediction markets are quickly gaining traction from institutional firms, and proprietary trading firms in particular are increasingly turning to these markets for trading opportunities.
As one of the fastest growing sectors in the global trading industry, the strategy allows market participants to trade event-based contracts, forecasting the outcomes of future events, such as exchange averages or election results.
At present, just under half of the proprietary trading firms globally are evaluating trading in prediction markets, with 10% of these already actively trading, and 35% considering it, according to Acuiti’s latest quarterly study.
Speaking to The TRADE, Will Mitting, founder and managing director at Acuiti, said: “Our latest quarterly ‘proprietary trading management insight report’ found significant interest from proprietary trading firms in trading on prediction markets. This suggests that these markets, which have historically been retail based, are on the cusp of significant institutional growth.
“There remain though some challenges to be overcome to further institutional adoption such as building out connectivity and middle and back-office functionality to trade these markets.”
Traditionally, prediction markets have been largely driven by retail demand, however these findings point towards a growth in institutional interest, with planned adoption from these firms highest in the US.
Specifically, more than three quarters of respondents based in the US said they were either actively trading on the prediction market, or evaluating this, compared to 37% in Europe.
Additionally, the report also revealed that almost all proprietary trading firms that are already active on prediction markets were ultra-low latency or predominantly algo, while contrastingly, the majority of respondents who are unlikely to evaluate the market currently were from point-and-click firms.
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Despite the opportunities presented by prediction markets, the report also signalled further challenges that proprietary trading firms may face when exploring these markets.
When queried on the greatest obstacles, capital movement and internal risk management were highlighted as the biggest operational challenges by firms already participating in prediction markets.
Emphasising this, Mitting added: “In addition, risk management is a key consideration for firms. We expect to see adoption initially focused on markets related to financial products which firms are able to model and analyse from a risk and pricing perspective. However, as proprietary trading firms become comfortable with the contracts, we would expect the scope of what they trade to increase.”
Issues surrounding trading in size and wide spreads on prediction markets also surfaced as challenges facing proprietary firms exploring these markets.
Despite these potential obstacles, it appears that prediction markets will increasingly become a subject of interest for proprietary trading firms, with 40% of firms surveyed forecasting that in three to five years these markets will possibly become a meaningful part of the institutional proprietary trading landscape.
As this impact begins to take shape across the proprietary ecosystem, what will come from this will certainly be one to watch within the industry.
Acuiti collated its ‘proprietary trading management insight report’ based on a survey of its proprietary trading expert network, consisting of senior proprietary trading executives from across the world, and based on topics and questions suggested by network members each quarter.