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Wall Street has been instrumental in helping large firms hedge against risks, ranging from unexpected changes in interest rates to surprise weather events. Unfortunately for small businesses, their risks always seemed too small or specialized to hedge against, leaving them out in the cold. However, the rise of prediction markets is changing that as a few firms like Susquehanna International Group and Castle Technologies set out to build the right mechanics for one-off hedging solutions.
“Hedging is not a well-known way to use event contracts yet, but my job is to build out one-off hedging solutions and hedge risks that would previously have been unhedgeable,” said Eric Passmore, a senior trader at Susquehanna International Group.
“The world today is a much more volatile place for smaller businesses trying to cope with real-world risks, and existing products just haven’t caught up. We translated an insurance problem into a market problem,” said Lucas Cavalieri, one of the co-founders of Castle Technologies.
Managing uncertainty and volatility
Small businesses are hedging on prediction markets by purchasing event contracts based on specific risks that can drive up costs or disrupt operations. The contracts are designed to pay out if those underlying risks occur, helping businesses offset their losses. If not, the businesses incur a smaller loss, or rather a premium, which can be treated as the “cost of insurance.”
A good example is the joint project by Castle Technologies and Susquehanna to create a one-of-a-kind contract for Western Grazers, a goat herding company. Western Grazers is concerned that labor costs could shoot up if a gap in California law isn’t fixed.
The company employs eight goat herders to manage a herd of roughly 4,000 goats that clear flammable dry bush to prevent wildfire risks across California. California law has historically allowed a special monthly salary exemption for the eight herders, who must be on call 24/7. However, a legal interpretation led to the expiry of that law, which could cause labor costs to spike from $60,000 to as much as $240,000 per herder.
This spike in labor costs would result in massive operational losses, and Western Grazers was on the verge of shutting down and selling off its herd. However, it approached Susquehanna and Castle Technologies, which structured a special event contract on Kalshi. The contract was based on the question: “Will California fail to pass an alternative wage or provide relief from goat herder overtime mandates before October 1, 2026?”
Western Grazers paid an upfront premium of $50,000 with a target payout of $500,000 if lawmakers fail to fix the gap, helping it absorb the financial shock of higher labor costs. In case of a “No” event, the company would lose the $50,000 premium but wouldn’t have to worry about higher labor costs.
In another example, Get Maine Lobster, a small business operating in Portland, Maine, is looking for a solution to its “costly, boring” discounts. With International Lobster Day coming up on September 25, the founder wants something “a lot more fun” and cost-efficient. To this end, he turned to Playably, a company helping small businesses hedge against risks. While Playably hasn’t yet decided on a solution for Get Maine Lobster, the founder, Angelo Ferro, is thinking of an offer whereby all customers who place orders on that day would get full refunds if Maine lobstermen caught a cotton-candy-colored lobster before the end of the season.
The fine line between hedging and sports betting
Sports-based event contracts have created a legal tussle between state governments and prediction markets. On the one hand, state authorities argue that prediction markets are engaging in unregulated sports betting. On the other hand, prediction markets, backed by the Commodity Futures Trading Commission (CFTC), a federal agency, insist that their products are swaps, financial instruments that are regulated by the federal government.
“Describing what is really a sports bet as a hedge is trying to pull the wool over people’s eyes,” said Ben Schiffrin, director of securities policy at Better Markets. He goes on to say that most users consider the underlying contracts to be “nothing more than gambling.”
However, a spokeswoman for Kalshi argues that Kalshi operates differently from a sportsbook. “A hedge on sports is still a hedge — you’re taking the other side of a trade to cover risk,” she said.
James Fayal, a former venture capital investor and the founder of Zest Tea, argues that event contracts on prediction markets are a form of hedging, insisting that they have no ties to sports betting or other forms of gambling. Fayal himself used Kalshi to hedge against surging freight costs by creating a contract tied to the average index value for a key index used to track container shipping costs. “This helps me solve a problem that has the potential to kill off a lot of great small companies,” Fayal said.
Indeed, businesses have used sports-based event contracts to hedge risks. For example, during the NBA playoffs, a New York City bar offered refunds if the New York Knicks won and then used Kalshi to bet on the Knicks losing, thereby offsetting the cost of refunds.
Elsewhere, a skincare products company called Jaxon Lane is offering its customers full rebates if one of the two top-ranked U.S. male competitors in the U.S. Open tennis championship, Ben Shelton or Taylor Fritz, makes it to the finals. Jen Yu, a co-founder, notes that the offer is meant to appeal to her target demographic of adults in their 30s and 40s, whom she describes as avid tennis players. “The challenge is always how to create engagement and repeat customers without going broke paying for ads,” Yu said.
