A recent scandal involving a Green Beret who was arrested for betting on a classified U.S. raid may be more than just an isolated incident. According to a new study, this individual may be an extreme example of a small group of informed traders who actually influence prices on platforms like Polymarket, while the majority of users incur losses.
The study, which analyzed 1.72 million accounts and $13.76 billion in trading volume on Polymarket, found that a mere 3% of traders are responsible for the majority of price discovery, consistently predicting outcomes and moving prices in the right direction. In contrast, the remaining 97% of traders tend to lose money, providing liquidity and generating volume, but ultimately being on the wrong side of trades against the informed minority. To distinguish between skill and luck, the researchers simulated each trader's bets 10,000 times, using the same markets, moments, and dollar amounts, but with the direction of the bet determined by a coin flip.
The results showed that only 12% of the biggest winners by raw profit consistently outperformed the benchmark, and many apparent winners did not sustain their performance over time. The study's findings suggest that the activity of skilled traders improves market accuracy, particularly in the final stages before an event's resolution, and that they are the first to react to new information, such as Federal Reserve announcements or corporate earnings.
However, the same edge that makes skilled traders valuable to price discovery also raises concerns when they possess non-public information. The paper highlights the risk of insider trading, citing the example of the U.S. removal of Nicolás Maduro from power in Venezuela, where three newly created Polymarket accounts placed unusually large bets on the event before it occurred, collectively making over $630,000. While insider trades are rare and concentrated in a handful of events, the study's findings challenge the idea that prediction markets work due to the collective knowledge of their participants, instead suggesting that they work because of the presence of informed traders.