District Court Vacates CFTC Prohibition on Trading "Congressional Control Contracts" Predicting Election Results
On September 6, 2024, the U.S. District Court for the District of Columbia ruled in favor of KalshiEx LLC ("KalshiEx"), lifting a September 2023 order issued by the Commodity Futures Trading Commission ("CFTC") prohibiting KalshiEx from offering users of its platform the opportunity to place bets on the outcome of upcoming U.S. congressional elections. Prior to the September 2023 order, KalshiEx attempted to offer derivative event contracts that would allow participants to take positions and trade on the outcome of such elections. The CFTC issued an order prohibiting KalshiEx from offering the contracts after it determined that such contracts involved "unlawful activity and gaming, and were contrary to the public interest." KalshiEx filed suit, challenging the CFTC's decision as arbitrary, capricious, and otherwise not in accordance with the Administrative Procedure Act. In her September 6, 2024, opinion, District Judge Jia Cobb found that the CFTC's order exceeded its statutory authority and held that "Kalshi's contracts do not involve unlawful activity or gaming. They involve elections, which are neither."
Citing Loper Bright
Notably, this decision comes on the heels of the Supreme Court's decision in Loper Bright Enterprises v. Raimondo, where the Supreme Court overruled the two-step analysis set forth in Chevron U.S.A., Inc. v. Nat. Res. Def. Council, 467 U.S. 837 (1984), that required courts to defer to a regulatory agency's rules based on the agency's interpretation of its enabling statute. In Loper Bright, the Court did away with such deference and held that the role of a reviewing court is "to independently interpret the statute and effectuate the will of Congress subject to constitutional limits." 144 S. Ct. 2244, 2263 (2024) (emphasis added). DWT has written extensively on this topic.
The district court in KalshiEx cited Loper Bright and relied on "traditional tools of statutory construction" to hold that the CFTC's interpretation of KalshiEx's derivative contracts as "involv[ing] unlawful activity" was overbroad. The district court found that CFTC's determination was solely based on the perceived illegality of the subject matter of the contracts (Congress and elections) because in many states it is unlawful to stake money on the outcome of an election. However, the district court noted that many states define unlawful gambling as staking money on any contingent outcome. Event contracts, by definition, involve staking money on some contingent event, so if the court were to accept the CFTC's interpretation, the CFTC would be able to prohibit any event contract, which is not a reasonable use of the agency's discretionary powers. As a result, the court issued an order vacating the CFTC's rule prohibiting KalshiEx from listing its congressional control contracts for trading.
The CFTC's Appeal and Its Event Contracts Proposal
On September 12, 2024, the CFTC filed a notice of appeal in the U.S. Court of Appeals for the D.C. Circuit and contemporaneously sought an emergency stay of the district court's order. A panel of the D.C. Circuit administratively stayed the district court's order temporarily and heard expedited oral argument on the CFTC's emergency stay motion on September 19, 2024. During the hearing, the CFTC argued that the court should uphold their initial prohibition on the electoral event contracts to avoid the "irreparable harm of incentivizing misinformation or using the markets to distort electoral perceptions." KalshiEx meanwhile argued that "the balance of equities favor Kalshi, which would be deprived of the fruits of an enormous investment in these time-limited markets."
On October 2, 2024, the U.S. Court of Appeals for the D.C. Circuit denied the CFTC's emergency motion to stay pending appeal. In her October 2 opinion, Circuit Judge Patricia Millet found that "[b]ecause the Commission has failed at this time to demonstrate that it or the public will be irreparably injured absent a stay, we deny its motion without prejudice to renewal should more concrete evidence of irreparable harm develop during the pendency of this appeal." The decision has cleared the way for KalshiEx to offer its platform for the public to place bets on the outcome of upcoming U.S. congressional elections.
In the backdrop of this case, the CFTC's proposed rulemaking on event contracts, Release Number 8907-24, continues to receive criticism and opposition. The proposed rule would amend CFTC Regulation 40.11 to further specify the types of event contracts that fall within the scope of Section 5c(c)(5)(C) of the Commodity Exchange Act ("CEA") that are contrary to the public interest. The proposal includes a determination that event contracts involving each of the activities enumerated in Section 5c(c)(5)(C), i.e., gaming, war, terrorism, assassination, and activity that is unlawful under any federal or state law, are, as a category, contrary to the public interest and therefore may not be listed for trading or accepted for clearing on or through a CFTC-registered entity. The proposed rulemaking has drawn criticism that the proposed rule overbroadly categorizes and bans certain event contracts, including those related to elections, raising concerns that this overreach exceeds statutory authority, stifles innovation, and neglects the economic benefits these contracts provide. Furthermore, some have argued the CFTC's attempt to ban prediction markets violates the three-step rulemaking approach as dictated by the CEA which requires the CFTC to assess whether a contract involves an excluded commodity, whether the contract involves a specific unlawful activity, and whether the contract is contrary to the public interest before banning it.
The D.C. Circuit's ultimate decision on the merits in KalshiEx will determine whether the CFTC may broadly ban event contracts or must allow those that are not specifically illegal to be traded. The D.C. Circuit's decision to dissolve the stay now allows KalshiEx to begin trading election event contracts before Election Day, November 5.
DWT's commodities and derivatives team will keep you updated as this case continues to develop.