The U.S. Securities and Exchange Commission is seeking more information from ETF issuers on disclosures and mechanics for prediction-market ETFs.Benoit Tessier/Reuters
Some U.S. exchange-traded fund (ETF) providers have filed with the Securities and Exchange Commission to offer a new class of ETFs that allow investors to wager on election outcomes, recessions, company layoffs and other events. Although approval for these prediction market ETFs has been delayed, some are wondering if Canadian providers will also look to get in on the action.
Given the buzz around the launch of event-driven ETFs in the U.S., “growing interest in Canada for something similar wouldn’t be far-fetched,” says Andres Rincon, managing director, head of ETF sales and strategy at TD Securities Inc.
“In the U.S., people are looking to this market as an avenue of growth because, depending on what the regulators do or approve, the spectrum of the space can be massive.”
Canada has been an ETF innovator, introducing the world’s first bitcoin ETF in 2021.
Wealthsimple Inc. and Interactive Brokers Canada have received regulatory approval from the Canadian Investment Regulatory Organization (CIRO) to offer prediction market products, called binary options, to retail investors. Questrade Inc. is expected to launch similar products in the summer.
Globe Advisor asked three ETF manufacturers in Canada about plans for prediction market ETFs. All three declined to comment.
In the U.S., Roundhill Investments, Bitwise Asset Management Inc. and GraniteShares Inc. are waiting for the green light to launch prediction market ETFs as the SEC seeks more information from the issuers on disclosures and product mechanics.
Bundling a prediction contract or a collection of contracts into an ETF wrapper will have a strong appeal to retail investors, says Andrew Fullarton, senior product manager, growth at Questrade.
An ETF would allow investors to take a simple, bounded action without the complicated requirements involved in managing derivative contracts built for institutional investors, he says.
As to how the products would be structured, Mr. Rincon says Canadian prediction market ETFs would likely resemble ETFs with exposure to crypto commodities using futures contracts.
In addition to ease of use, another potential advantage of the ETF structure is reducing the risk of insider trading. “You can’t just launch an ETF whenever you want. It’s costly and there is a big regulatory burden,” Mr. Rincon says, and that additional regulation makes them safer for investors.
Currently, to trade an event contract, an investor would open a separate event contract account on their brokerage platform and browse eligible contracts. Like any other trade order, the investor specifies the number of contracts and amount, and indicates either a market or limit order. Event contracts can’t be held in registered accounts and leverage is not permitted.
Binary options contracts have specific “yes or no” outcomes; the contract price reflects the probability of the outcome. Contracts are denominated as $1, so a 70-per-cent probability event contract would sell for 70 cents. If the wager is correct, the investor would receive $1 for a 30-cent profit. If, on the other hand, the wager was incorrect, the value of the contract would fall to zero.
Unlike in the U.S., where wagering on sports and elections is permitted, in Canada, the category of contracts is much narrower and includes financial and economic indicators (interest rate decisions, inflation and employment data and market levels), and environmental events that have a minimum term-to-maturity of 30 days as set out by CIRO.
Because contracts on sports and political events represent an outsized portion of trading volume in the U.S., there would be a smaller pool of trades in Canada.
“A lot of these markets are quite nascent. To offer scale and predictability, ETF products would have to attract institutional funds,” Mr. Fullarton says.
That’s starting to happen as some institutions become market makers in prediction markets.
Mr. Fullarton says the sector is moving away from the “random sports betting you see on Polymarket” toward “legitimate financial use cases.”
“It’s one tool in a wider financial toolkit that lets individual investors hedge against risks, such as interest rate changes, that directly affect their personal finances, including a variable rate mortgage payment,” he says.