When Certainty Is Not Worth It: Capital Lock-Up and Settlement Discounting in Prediction Markets
This research is significant for participants and designers of prediction markets, as it reveals that pricing quality is endogenous to settlement mechanics, collateral productivity, and capital-recycling design, impacting how information is aggregated.
This paper investigates the impact of capital lock-up and settlement delays on pricing in collateralized prediction markets. It finds that prices embed a maturity-dependent settlement discount, summarized as an annualized settlement wedge (ASW), which is positive, maturity-dependent, and time-varying. Adjusting prices by these curves reduces the near-certainty horizon gradient by 48-88%.
Collateralized prediction markets are contingent-claim markets in which economic uncertainty can disappear before winning claims become redeemable. This paper studies the pricing effect of that delay. When collateral remains locked until oracle settlement, a near-certain dollar is a delayed dollar, so prices embed a maturity-dependent settlement discount in addition to beliefs about outcomes. We recover an implied settlement-discount term structure from persistent near-certain contracts using realized settlement times and summarize it as an annualized settlement wedge (ASW). The recovered wedges are positive, maturity-dependent, and time-varying. Adjusting pricesby these curves reduces the near-certainty horizon gradient by roughly 48-88%, indicating that much of the raw maturity pattern reflects priced settlement frictions rather than forecast error alone. Market architecture changes the wedge: negRisk conversion compresses discounts by recycling part of the position into synthetic collateral, while yield-bearing collateral flattens the term structure by reducing the opportunity cost of lock-up. The results show that pricing quality in prediction markets is endogenous to settlement mechanics, collateral productivity, and capital-recycling design. Prediction-market prices therefore aggregate information through a financial infrastructure whose funding conditions are measurable and economically important.