The financial derivation of Polymarket and the arbitrage logic of professional traders.

Author: danny; Source: X, @agintender

The qualitative nature of prediction markets has sparked intense debates about their financial essence and gambling nature. This article attempts to analyze how Polymarket, through its unique architecture and mechanisms, integrates its Event Contracts into a new type of binary options financial derivative on the blockchain, while avoiding the factors of gambling.

Unlike the traditional bookmaker betting model, Polymarket uses P2P CLOB for matching and settlement, eliminating the traditional “house edge” betting factor. This model and architecture not only discards the “betting component”, attracting professional market makers to provide deep liquidity, but also creates significant operational space, including market rebalancing arbitrage and portfolio arbitrage. Where there is competition, there are differences — where there are differences, there are interests — where there are interests, there is a market.

Beyond the gambling platform, Polymarket has become a “decentralized magic crystal ball” driven by professional capital to aggregate collective wisdom and conduct risk pricing.

1. Why is it not gambling? Mechanism Definition: The Absence of “House Advantage” in P2P Trading

1.1 Event-based Binary Options Contract: Concept Analysis

Polymarket's core trading product is called event contracts, which are structured similarly to binary options in traditional financial markets. The share price of each event fluctuates between 0.00 and 1.00, with the total always summing to 1.00. The price of the shares directly reflects the market's real-time probability of the event occurring.

Definition and Structure of Binary Options

Binary options are a special type of derivative, named for their fixed, binary payout structure: at the expiration of the contract, one either receives a predetermined fixed return (“in-the-money”) or nothing at all (“out-of-the-money”). This type of contract only involves directional predictions about events, without involving leverage, margin, or complex settlement mechanisms, making it a simplified form of futures.

The Integration of Polymarket Event Contracts

Polymarket's event contracts are the digital and decentralized implementation of this model:

1. Binary Question: Each market is constructed as a “yes/no” (YES/NO) binary question.
2. Fixed Payout: When the event is finalized, shares representing the correct outcome will be settled at $1.00 USDC, while shares representing the incorrect outcome will be settled at $0.00 USDC.
3. Probability Pricing: The price of event shares purchased by users fluctuates between $0.00 and $1.00. This price is the collective assessment of the market regarding the probability of the event occurring. For example, if the trading price of YES shares is 0.36, it means that the market believes the probability of the event occurring is 36%.
4. Complete collateral constraint: The price of YES shares in a market plus the price of NO shares “should” always equal $1.00 USDC, ensuring the zero-sum nature of the market and complete collateralization.
5. Judgment method: Use blockchain oracles to determine the results of YES / NO.

Therefore, Polymarket's event contracts are essentially blockchain-based, fully collateralized binary options, with no house betting, that transform the collective judgment on future events into a tradable financial asset.

Differentiated from traditional gambling models

Traditional bookmakers (such as sports betting) act as the “dealer” or opponent, actively betting against gamblers and extracting a high house edge (House Edge/VIG) to ensure long-term profitability. Polymarket, on the other hand, is a purely P2P exchange that only provides matching and settlement services (assuming Polymarket does not offer a betting market). The platform completes transactions by matching two traders with opposing views, without holding any market risk exposure itself. Its revenue comes from charging transaction fees to the winners of successfully settled contracts.

This P2P structure gives traders a higher expected value and legally supports its classification under federal derivatives regulation (Polymarket also acquired a financial derivatives brand photo company in 2025), thereby circumventing state gambling law restrictions.

2. Order Book Architecture: Professional Market Making and Liquidity Incentives

Polymarket has abandoned the automated market maker (AMM/LMSR) model it used earlier and switched to a central limit order book (CLOB).

2.1 CLOB brings professional operational space

The CLOB architecture allows traders to set Bid and Ask through Limit Orders. This seemingly complex operation creates space for professional Market Makers to operate and profit.

• Earn Buy-Sell Spread: Market makers provide depth liquidity to the market by quoting bilateral prices between buying and selling prices, thereby earning the small difference between the buy and sell prices.
• Position and Risk Management: The core responsibility of market makers includes position management. They sell at high prices and buy at low prices based on their own probability models, managing market exposure by dynamically adjusting orders, and continuously pushing prices towards what they believe to be the “true probability” level.
• Liquidity Rewards: To further incentivize market makers, Polymarket has implemented a liquidity rewards mechanism that pays out daily rewards based on the competitiveness of the orders (how close the price is to the market midpoint) and their size.

2.2 Hybrid Architecture and On-chain Settlement

Polymarket adopts a hybrid architecture, utilizing an Off-Chain matching engine to achieve high speed and low latency in order matching. At the same time, all final settlements and asset transfers for transactions are settled On-Chain. All Bets on the platform are settled in USDC.

3. Professional Arbitrage Strategies: The “Invisible Hand” of Market Efficiency

3.1 Intra-Market Arbitrage

This is the most basic form of arbitrage, which ensures that the market price satisfies the constraint that YES share price + NO share price = 1.00.

When the market prices deviate, for example, the price of YES shares is 0.58 and the price of NO shares is 0.40, with a total of 0.98, arbitrageurs will immediately buy both shares, with a total cost of 0.98, and lock in a return of 1.00 at contract settlement, thereby earning a risk-free profit of 0.02.

This arbitrage activity is the market's self-correcting algorithm, forcing prices to quickly revert to 1.00.

3.2 Combinatorial Arbitrage and Multi-Logic Chains

This arbitrage takes advantage of the logical or probabilistic correlations that exist between different events, such as the multi-chain logic between the “probability of the Federal Reserve lowering interest rates” and the “value of the US dollar,” or the correlation between the “MVP probability of the sharpshooter” and the “probability of that MVP team's championship.”

When multiple interconnected markets have inconsistent pricing, arbitrageurs will eliminate this mispricing through cross-market hedging and trading, thereby locking in a combined profit.

3.3 Cross-platform Hedging and Regulatory Arbitrage

Professional traders do use Polymarket as a hedging tool to hedge risks against traditional financial markets or other platforms, such as:

Traders can short a political event outcome on Polymarket (for example, by buying NO shares) while establishing hedging positions in traditional futures or options markets to protect their overall portfolio from the impact of that event.

Take advantage of the small price differences that may arise between Polymarket and other regulated competitors (such as Kalshi) or traditional betting exchanges (such as Bet365) to engage in cross-platform buying and selling to lock in risk-free profits.

4. Conclusion

Polymarket's CLOB structure and P2P trading mechanism make it functionally very similar to traditional financial derivatives markets. It transforms collective beliefs about uncertain future events into tradable assets by providing a zero-sum, no-house-edge trading environment.

Platform efficiency does not come from algorithms, but from the market game brought about by arbitrage—enforced by professional market makers and arbitrageurs through precise position management and multidimensional arbitrage strategies. Therefore, Polymarket has transcended the realm of “online gambling” to become a highly efficient, arbitrage-driven decentralized information aggregation and risk pricing financial infrastructure.

Is the truth becoming clearer the more we argue? I don't know;

Can the market predict the future through sufficient game theory? Let's wait and see.

Beyond betting platforms, Polymarket has become a “new century magic crystal ball” driven by professional capital, used to gather collective wisdom and conduct risk pricing.