A swap on the exchange, a bet at the sportsbook

The Commodity Futures Trading Commission on Friday issued two linked rulemakings on event contracts, the yes-or-no instruments listed by exchanges such as Kalshi. The first, according to the agency, is a proposal to define the term "swap" expressly to include event contracts, "including those based on sports, politics, cultural, and weather-related events". The second is an interim final rule that codifies what the agency calls its "longstanding position" that casino-style gambling products, "including wagers placed on sportsbooks and casino games", are not swaps.

The proposal would add a paragraph (2)(i)(G) to the swap definition in the Commission's regulations at 17 CFR 1.3, naming event contracts as swaps in a non-exhaustive list, according to the proposed text. Its argument is statutory. The Commodity Exchange Act counts as a swap any contract whose payment depends on an event or contingency "associated with a potential financial, economic, or commercial consequence", and the agency says "the best reading of the statute" is that sports, political, cultural and weather contracts qualify. Comments are due 30 days after the proposal appears in the Federal Register. The texts posted on Friday are marked "subject to pre-publication technical corrections", and by our check neither had been published in the Federal Register or placed on its public-inspection list by Tuesday afternoon, so neither comment period has started.

The interim rule sets two tests, modelled, its text says, on the exclusions for insurance and consumer transactions that the CFTC and the Securities and Exchange Commission adopted in 2012. A product is outside the swap definition if it is offered by a person supervised by a state gaming commissioner, or a similar official, or by a tribe, and is regulated as gambling under state or tribal law. It must also not be traded on an exchange or any other market where trades are executed multilaterally. A sportsbook's bet offered as principal under standard "house rules" passes; a contract on a CFTC-registered exchange does not, because its price is set by "the competitive interaction of multiple buyers and sellers". The rule takes effect when it is published in the Federal Register, with comments taken for 30 days afterwards.

Chairman Michael Selig said in the agency's release that the contracts "are commodity derivatives squarely within the CFTC's regulatory remit under the Commodity Exchange Act and are within the agency's exclusive jurisdiction." Of the companion rule he said: "Casino-style gambling products are not derivatives."

The proposal sets out why the agency is acting now. In April a divided Third Circuit panel held that sports event contracts on a CFTC-licensed exchange "fit within the Act's definition of 'swaps' subject to the CFTC's jurisdiction". On 28 August the Ninth Circuit took the opposite view, concluding that such contracts "are likely not swaps under the CEA"; a petition for rehearing and rehearing en banc was filed on 9 September. On 25 September the Sixth Circuit also held that they are not swaps, for different reasons: it accepted that a game's outcome can be an "event", but said the event must be "inherently associated" with a financial, economic or commercial consequence. The agency says the rulings show "widespread confusion and disuniformity about the definition of swap".

The two documents answer different arguments. The Ninth Circuit, as the CFTC quotes it, said the "substance" of the contracts before it was "sports gambling, regardless of whether [the DCM] calls them swaps". The states' argument, as the interim rule describes it, runs the other way: if event contracts are swaps, so are wagers at casinos and sportsbooks. Forty states and the District of Columbia told the agency in an April comment letter that sports event contracts are "indistinguishable from traditional sports betting", and New Jersey has told the Supreme Court that "[n]othing in the [CEA] gives the CFTC unprecedented authority to become the sole regulator of sports gambling in this country", the rule's text says. The proposal also cites a Minnesota law making it a felony to offer such contracts, criminal charges in Arizona, a New York suit and state-court orders requiring Kalshi to geofence its sports contracts in Michigan, Washington and Nevada.

Jaret Seiberg, a policy analyst at TD Cowen, read the gambling rule as an answer to the states. "We view this interim final rule as designed to improve the agency's position in court as the states are arguing that the CFTC's definition of a swap would make federally illegal any wager made at a state or tribal casino or sportsbook," he wrote in a Friday note to clients, CoinDesk reported. "Whether this actually works is a different question."

The rules moved quickly. American Banker reported on 1 October that both had been filed with the White House Office of Information and Regulatory Affairs that Monday, less than two weeks before Friday's release. Selig is the only commissioner listed on the agency's website for a commission designed to have five, and CoinDesk noted that he is able to make decisions about the CFTC's policies on his own. The stake for the exchanges is pre-emption: even the Ninth Circuit acknowledged, in a passage the proposal quotes, that "the CEA expressly preempts state law regulating swaps 'traded or executed on' a DCM". That is why the label decides whether the states can regulate the contracts at all.

The NFL, as Komposite reported, asked the Supreme Court last week to hear New Jersey's challenge to the Third Circuit ruling, and The Divide set out the case that a bet does not stop being a bet on an exchange on Sunday. The commission also published an advance notice on crypto regulation on 5 October. It had withdrawn its 2024 event-contracts proposal in February, when Selig said the Commission would "advance a new rulemaking grounded in a rational and coherent interpretation of the Commodity Exchange Act".