In Murphy v. NCAA, the U.S. Supreme Court in 2018 held that the Professional and Amateur Sports Protection Act of 1992 (PASPA), which banned state-sanctioned sports betting, was unconstitutional. Since then, more than 20 states have authorized sports betting; some have permitted betting on broader current events. These bets can look a lot like Commodity Futures Trading Commission-regulated or -banned products.
CFTC jurisdiction encompasses “binary options” and “event contracts,” posing a potential problem for operators in states authorizing betting on CFTC-jurisdictional products, because: (1) Murphy isn’t as broad as states apparently think; and (2) the CEA prohibits individuals from entering “swaps” other than on futures exchanges unless the individuals are “eligible contract participants” (ECPs).
The swap definition includes, inter alia, binary options and event contracts. Although prong (ii) of the swap definition, which is based on certain events or contingencies, is not exactly the same as Commodity Exchange Act (CEA) section 5c(c)(5)(C) (Event Contracts), they are similar enough to refer to event-based swaps as “event contracts” for purposes of this article.
Individual ECP status generally requires more than $10 million invested on a discretionary basis, so few bettors are ECPs. Furthermore, although the court held in Murphy that PASPA violated federalism principles by prohibiting states from permitting sports gambling, the court also noted in dicta that if Congress instead directly prohibits sports gambling, that would preempt state sports gambling laws.
While Congress hasn’t done that, it did enact the CEA. Also, preemption is broader than described in Murphy and may still apply due to certain CEA sections and CFTC regulations. Thus, it’s possible that the CEA’s prohibition on non-ECPs entering swaps preempts states’ ability to authorize sports/other gambling.
Post-Murphy Developments in State Level Sports and Other Gambling
Pre-Murphy, full-fledged, fixed odds sports betting was legal in Nevada. Post-Murphy, a patchwork of state regulatory structures has emerged, each with different licensing, tax, and market access rules and dynamics. While each state’s sports betting framework has unique characteristics, most share one feature: barriers to entry that disadvantage entrepreneurs and benefit incumbents.
Many states enacted “skin” system legislation, under which only licensed casino and racetrack operators can offer sports betting, so a new online sports betting business can only operate if it buys a skin from a casino/racetrack located in the state. Each casino/racetrack is able to partner with up to three online operators, depending on the state. The casinos/racetracks thus have total control over which online operators enter a state. States running this system include New Jersey, Indiana, and Pennsylvania.
These rules have required online operators to pay land-based incumbents (instead of states, oddly) in order to launch in each state via up-front fees ranging up to millions of dollars, plus a recurring revenue share. The skin system makes it extremely difficult for new online operators to offer competitive products.
Due to this lack of competition, among other factors, the cost of a sports bet remains quite high ($6.50 per a $100 New Jersey wager in 2019, on average). Also, successful bettors’ access can be severely limited or eliminated. Unlike exchange market-makers, operators can identify each customer, allowing for the profiling and limiting of certain customers. On some platforms, customers may even have to ask and wait up to 30 seconds to get their bet approved.
Resemblance of Sports and Other Gambling to CFTC-Regulated Products
The CFTC has brought several cases against offshore markets offering U.S. persons binary options, including Intrade. In 2015, a court described Intrade as a “‘platform where [customers] make predictions…on the outcome of real-world events’” that will either “happen as described, or…not happen.’” The CFTC’s online glossary defines a binary option as “a type of option whose payoff is either…fixed…or zero.” Many bets resemble binary options.
The CEA defines as an element of one type of swap “any…payment…dependent on the occurrence, nonoccurrence, or… extent of the occurrence of an event or contingency associated with a potential financial, economic, or commercial consequence[.]”
Sports and other betting could fall within this definition if considered associated with such a consequence. CFTC Commissioner Brian Quintenz warned in a speech that “the CFTC…historically only authorized off-exchange…event contract trading in limited circumstances, on specific…event [types], for academic purposes, and with strict limits on the amounts retail customers can invest.”
For example, CFTC staff stated in a 2014 “no-action” letter they would not recommend action against Victoria University for operating a nonprofit event contract market that: was available to U.S. persons; offered winner-take-all contracts predicting outcomes including congressional election outcomes; and was based on prior relief permitting political election and economic indicator binary contract submarkets.
Potential CFTC Approaches to State-Licensed Gambling
The CFTC has sometimes allowed developing markets to incubate via a hands-off approach, as it did with swaps and, more recently, cryptocurrency trading, absent widespread fraud. However, in 2015, the CFTC settled a non-fraud-based action against a Bitcoin options trading platform for operating without CFTC registration.
The CFTC has also brought cases involving illegal binary option and event contract sales, but has not sued any established U.S. casinos or horse tracks.
The CFTC could take various approaches to state-licensed gambling, including (1) doing nothing, (2) suing operators and (3) providing regulatory relief.
Regulatory relief options include staff no-action relief and possible commission action under CEA §§ 4(c) or 4c(b). Given the money at stake, it is possible the CFTC will take a wait and see approach, unless its hand is forced by misconduct, private rights of action or Congress.
Applying the CFTC’s regulatory scheme to sports betting would benefit the market by offering operators a single, less-expensive licensing path and would disadvantage primarily the comparatively fewer casinos/racetracks benefiting from the current skin system.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.
David Aron is an attorney at the Commodity Futures Trading Commission. He previously, among other things, was a partner at McDermott Will & Emery and worked at Citibank and MetLife. The analyses and conclusions expressed by Aron in this article are his own in his personal capacity, and do not reflect the views of the U.S. government and the CFTC or its staff.
Alexander Kane is the CEO of Sporttrade, a peer-to-peer exchange which matches buyers and sellers of event contracts on sports outcomes. The views expressed by Kane in this paper are his own in his personal capacity and do not necessarily represent the views of Sporttrade, its investors, advisers, or employees.