By Suzanne McGee
Aug 28 (Reuters) – Mark Murrell, founder of Get Maine Lobster of Portland, Maine, has an irritating business problem that he has been struggling to solve: offering discounts is costly and, well, “it feels so boring.”
For International Lobster Day on September 25, he wanted something memorable and “a lot more fun.” So Murrell joined the ranks of a still-tiny group of small businesses looking to prediction market platforms to help manage a host of idiosyncratic risks that could spell the difference between success and failure.
For decades, larger firms have turned to Wall Street to help manage risks, from an unexpected move in interest rates to a frost in Brazil wreaking havoc on the coffee crop. But smaller firms have been essentially shut out because their hedging needs often appear either too small or too specialized — until an array of firms set out to change that.
“Hedging is not a well-known way to use event contracts yet, but my job is to build out one-off hedging solutions and hedge risks that would previously have been unhedgeable,” said Eric Passmore, a senior trader at Susquehanna International Group.
A case in point: Susquehanna worked with prediction market platform Kalshi and a startup specialty finance firm founded by four Stanford University alumni, Castle Technologies, to create a one-of-a-kind contract for goat herding firm Western Grazers. The goal is to manage the risk that the firm’s labor costs might soar if California legislators don’t fix a gap in labor laws governing his eight goat herders, who work around the clock to make sure the goats nosh away on dry brush that would otherwise be a wildfire risk.
Together, the three firms structured an event contract that will pay Western Grazers and founder Tim Arrowsmith $500,000 if state legislators don’t tweak their rules.
DEALING WITH UNCERTAINTY, VOLATILITY
“The world today is a much more volatile place for smaller businesses trying to cope with real world risks and existing products just haven’t caught up,” said Lucas Cavalieri, one of Castle’s co-founders. “We translated an insurance problem into a market problem.”
In a typical arrangement, the small business owner pays a small premium to offset the risk of an unexpected hike in costs or a black swan event that might derail demand for its goods or services. The owner seeks to limit the financial impact of the event, while firms like Susquehanna and Castle get a fresh source of business and revenue.
For Kalshi, even more may be at stake, given an ongoing tussle over regulation that comes as the company is trying to recast itself as a provider of financial services.
While the Commodity Futures Trading Commission has joined with Kalshi, Polymarket and other prediction market platforms to insist that event contracts are swaps and thus financial instruments that are regulated by the CFTC, state governments counter that they are, in reality, nothing more than another venue for sports betting.
HEDGES OR SPORTS BETS?
“Describing what is really a sports bet as a hedge is trying to pull the wool over people’s eyes,” said Ben Schiffrin, director of securities policy at Better Markets. For most users, the underlying contracts will be “nothing more than gambling.”
Kalshi operates very differently than does a sportsbook, said a spokeswoman from the prediction market firm.
“A hedge on sports is still a hedge — you’re taking the other side of a trade to cover risk,” she said.
Indeed, many of the small business owners that have turned to prediction markets to manage business risks have done so in order to manage the potential financial impact of a big sports-linked promotion. During this year’s NBA playoffs, for instance, a New York City bar offered refunds on bar bills if the New York Knicks won and turned to Kalshi to bet on the Knicks losing. The profits from those trades covered what would otherwise have been lower profits.
Angelo Ferro, founder of Playably, is building his two-year-old business around helping clients like Murrell design promotions like this. He still hasn’t decided on just the right event contract for Get Maine Lobster’s International Lobster Day promotion, but one option would be to give full refunds to a group of customers who place orders that day if Maine lobstermen catch a cotton-candy-colored lobster before the end of the season.
Jen Yu, co-founder of skincare products company Jaxon Lane, is rolling out a promotion tied to the U.S. Open tennis championship that starts this week, offering her customers a full rebate if one of the two top-ranked U.S. male competitors, Taylor Fritz or Ben Shelton, makes it to the finals. It is designed to appeal to her target demographic — adults in their 30s and 40s, whom she has seen become avid tennis players — and also to bring some of the excitement of the tournament to the brand.
“The challenge is always how to create engagement and repeat customers without going broke paying for ads,” Yu said.
SHIELDING SMALL BUSINESS FROM FINANCIALLY HAZARDOUS EVENTS
James Fayal, founder of Zest Tea and a former venture capital investor, insists that his event contracts on Kalshi fall into the category of hedging and have no ties at all to sports betting or other forms of gambling. Facing surging freight costs, this year he turned to Kalshi to design a contract tied to the average index value for a key index tracking container shipping costs, which he calculates would cover as much as half of a big surge in his expenses.
“This helps me solve a problem that has the potential to kill off a lot of great small companies,” Fayal said.
(Reporting by Suzanne McGee in Providence, Rhode Island; Editing by Colin Barr and Nick Zieminski)
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