Betting on Blockchain

Blockchain technology has the potential to reshape the culture and practice of betting on anything from sports to reality television outcomes. Shops that embrace these changes will be poised to grow at a faster rate than industry peers as consumer expectations change.

Love it or hate it, the act of betting has existed since the dawn of competition. The desire to challenge others on a particular outcome, hoping increased research, skill, and good fortune will lead to financial benefit fuels a $230 billion annual market in sports alone.

This potential for profit does not go unnoticed. As venues for betting have transitioned from gambling halls to cell phones, thousands of companies have sprung up to try and capture these lucrative cash flows.

However, the industry is not without challenges, many of which have become increasingly apparent as technology allows the operators of massive betting platforms to shield behind-the-scenes operations from their users. The result is a market defined by gimmicks, lack of trust, and continued bad behavior by actors in the space.

So how can blockchain help?

Let’s start with first principles using a simple betting model. When you bet for or against a particular outcome on a platform, what is actually happening? Typically, the platform (or bookkeeper), will set a particular rate on the other side of the bet, the payable amount. If you are right, then you cash that amount (woot!). If you are wrong, you lose your money (boo!). Simple right?

Now here is where it starts to get interesting. How does the bookkeeper set the price? Sure, you might find a friend who will give you a rate based on “feel.” These days, however, most rates are set by some combination of mathematical models that factor in public opinion, historical data, and idiosyncratic risk. The logic for the bookkeeper is simple, limit downside risk and maximize upside potential. In other words, pay as little as possible when you lose and gouge your client’s eyes out when they lose.

So do they do this effectively? Well, they must, otherwise, there would be no business. What this means is that rates are not favorable. Systematically. Sure, you could argue that clients could take their cash elsewhere if the bookkeeper were not “fair.” In practice, frictions prevent this. We see time and time again that retail clients just put the money down. Thus, they lose over the long run.

Blockchain fixes this. Rather than a privately crafted price that is put up on a screen, betting odds could be represented through smart contracts. Pricing could be set transparently, allowing for significantly fairer rates that protect retail users and provide a better experience. Betters could know the odds they were betting on were fair, without necessarily calculating them themselves. This same logic could be extended to include fees and transaction costs calculated into the price.

Another way blockchain could help provide a better industry experience would be through clear, governed liquidity and risk management practices. Not often embedded into the minds of bettors is the total risk they are moving onto their personal balance sheet. Sure, they have put money down, but what happens if they actually win against the bookkeeper? Enter a finance favorite. Counterparty risk.

Here's a scenario to help frame the story. Picture it is 2016. You just had your first child and have gone ahead and taken out a mortgage on a house just outside London because you need the space. Fortunately for you, you placed a nice bet at the start of the English Premier League season on underdogs Leicester City. Now, I am talking about real underdogs. The type who should NEVER win. The bookies are so confident of this that they place their bets at 5000 to 1 odds. Fortunately for you, the impossible happens. Leicester actually wins (you lucky dog!). Woah. Your 50 quid is now worth 250,000 pounds! What do you want to do? Pay off your mortgage? Send your kid to a top school? Just kidding. You get NOTHING. By underestimating the odds (think back to problem #1) and not managing their balance sheet properly, the firm you placed the bet on is now bankrupt. Too bad, try again next year.

Not a great story, but unfortunately one that affected thousands of bettors when this actually happened. A well-structured program on the blockchain could prevent this. Not only are odds more effectively and openly calculated, but on-chain logic could work to ensure that the bookkeeper’s books are appropriately managed with strong built-in liquidity constraints. Likely these would mirror those found in finance imposed after the last great financial crisis. If the bookkeeper couldn’t afford to pay out, unfortunately for them they can’t take the money in the first place.

Currently, bettors are used to or oblivious to these challenges and risks. However, this is set to change. As an increasing number of firms begin to implement this blockchain based logic in their business operations fueled by companies such as Metcy, first movers will benefit the most from the coming shift in consumer behavior. Even better, these changes will only work to make the act of betting safer and more reliable in the process. In the world of betting, this is a rare win-win.