What is arbitrage in prediction markets, and when is it actually possible?
Arbitrage is a low-risk profit from inconsistent prices (e.g., "Yes" + "No" priced below $1 combined). In practice, true arbitrage is rare because fees, slippage, limits, and timing risk often eliminate it.
Detailed Explanation
- Definition: Arbitrage exploits price inconsistencies that guarantee a profit regardless of outcome—buying underpriced contracts and selling overpriced ones.
- Binary market example: If "Yes" is $0.45 and "No" is $0.50, buying both costs $0.95 and pays $1.00, locking in $0.05 profit.
- Multi-outcome example: If all candidates in a race sum to less than $1 (or more than $1), an arbitrage exists.
- Friction reality: Fees, spreads, execution delays, and position limits usually close the gap before you can act.
Common Scenarios
- Cross-venue arbitrage: same event priced differently on two platforms
- Intra-market arbitrage: Yes + No or all outcomes don't sum correctly
- Time-based arbitrage: stale prices on one venue haven't updated after news
- Settlement arbitrage: different resolution rules create divergent pricing
Exceptions & Edge Cases
- If you can't execute both legs simultaneously, then you face execution risk, not arbitrage.
- If settlement rules differ between venues, then the contracts aren't truly fungible.
- If fees exceed the spread, then the apparent arbitrage is a mirage.
- If one venue has withdrawal delays or counterparty risk, then you're taking on hidden risk.
Practical Examples
You spot "Candidate X wins" at $0.42 on Platform A and $0.38 on Platform B.
- Naively, you'd buy on B and sell on A for a $0.04 edge
- But: Platform A charges 5% fees, Platform B has a wide spread, and you can only execute $500 before moving the price
- After friction, expected profit may be zero or negative
Actionable Takeaways
- ✅ Check combined pricing (Yes + No, or all ranges sum)
- ✅ Include realistic execution (spread + slippage + fees)
- ✅ Confirm identical settlement definitions across venues
- ✅ Move fast—true arbs close quickly
