Shadow Trading Finds a New Home: Prediction Markets
I have previously written about shadow trading, the SEC’s theory that trading a different, economically-linked company’s stock while sitting on your own company’s MNPI is still insider trading. When a San Francisco jury convicted Matthew Panuwat in 2024 for trading Incyte options on Medivation inside information, shadow trading stopped being a theory and became proven enforcement tool.
That precedent is now in front of the Ninth Circuit. The court heard oral argument on June 11, 2026, and the panel’s questions cut right to the doctrinal heart of the matter: does insider trading liability require some duty tied to the company whose information you misused, or can it stretch to cover any trade that exploits confidential information capable of moving a different security? Whichever way the Ninth Circuit rules, the underlying question is not going away. And it’s a question worth asking about a market Panuwat never touched: prediction markets.
The Shadow Trade, Reimagined
The mechanics of shadow trading translate to prediction markets almost too easily. Instead of buying call options in a competitor, imagine an employee with early knowledge of a drug trial failure, a regulatory decision, or a deal that’s about to fall apart. Rather than touching a restricted security, they take a position on a Kalshi or Polymarket contract that isn’t about their employer at all, a contract on whether a competitor’s drug gets approved, whether a sector sees a wave of M&A activity this quarter, or whether a Fed decision goes a certain way that they happen to know is now more likely.
None of that trips a traditional restricted list. None of it involves a CUSIP or a ticker. And unlike Incyte, which was at least a recognizable, correlated public company, a prediction market gives an insider access to an almost unlimited menu of adjacent, tangentially-linked outcomes to bet on instead of the thing they actually know about.
We have already seen prediction market insider trading prosecuted in its direct form, DOJ’s cases against a Special Forces soldier trading Polymarket contracts on classified military intelligence and a Google engineer who staked roughly $2.75 million in event contracts using misappropriated company data both involve someone betting directly on the thing they had inside knowledge of. Nobody has yet brought the shadow variant, someone trading a correlated contract instead of the one tied directly to their MNPI. Given how the Panuwat theory has already moved from novel to precedent in equities, it’s not a matter of if, but when.
Why This Is Harder to Catch Than Equity Shadow Trading
A few things make prediction markets a tougher surveillance problem than the sector-hook approach we recommended for equities:
- No standardized taxonomy
Shadow monitoring for equities leans on GICS codes, CUSIPs, and other established identifiers to map “economically linked” securities. Prediction market contracts are bespoke, platform-specific, and often exist for only as long as the event does. However, there is no CUSIP for “Will the Fed cut rates in September?” - No account-opening friction
Restricted list and PAD programs lean heavily on brokerage account disclosure, new account letters, and duplicate confirmations. - Harder materiality proof, but a possible quantitative workaround. The SEC’s Incyte case leaned on event studies showing a statistically measurable stock price correlation. Proving that a qualitative event contract, “will this merger close by Q3,” was “material” to a firm’s confidential information is a much fuzzier analytical exercise, for both regulators and internal compliance teams trying to build a case. But prediction markets may end up generating their own version of an event study almost by accident. Kalshi has already flagged more than 400 suspicious trades so far this year, more than double all of 2025, and third-party monitoring tools already scrape order-book and blockchain data for exactly the signals a materiality case would need: abnormal volume spikes, unusually fast odds movement right after a specific internal event, and correlated positioning across contracts that shouldn’t otherwise move together. None of that has been legally tested as “materiality” yet, but it doesn’t need a new legal theory to become powerful circumstantial evidence. A sudden volume spike in a niche merger-timing contract minutes after an internal deal call, with no public news to explain it, is exactly the kind of pattern regulators and platforms are already primed to notice.
What Employee Monitoring Needs to Do About It
The same instinct that drives shadow monitoring for equities applies here, just pointed at a new asset class:
- Extend sector-hook logic to event contracts. If your surveillance already tags employees and securities by industry codes to catch shadow trading, that same tagging needs to reach prediction market contract categories, sector-, company-, and macro-linked alike, not just literal name matches.
- Require disclosure of prediction market accounts. Treat them the way you treat brokerage accounts. If a policy does not explicitly name prediction market platforms as reportable, most employees will not think to disclose them.
- Watch timing, not just tickers. A prediction market position opened in the hours after an internal deal call, earnings prep session, or trial readout is a pattern worth flagging, regardless of whether the contract is literally about your company.
- Update confidentiality language, and there’s already a template for how. As we noted after Panuwat, NDAs and insider trading policies that only reference “securities of the company” or “securities of other companies” may not clearly reach event contracts at all. That’s not a hypothetical gap anymore. At least half a dozen major law firms, including Skadden, Davis Wright Tremaine, Snell & Wilmer, and Bloomberg Law’s own legal commentary desk, have published guidance since May 2026 specifically recommending that companies rewrite insider trading policies, codes of conduct, and NDAs to explicitly name prediction markets and event contracts, rather than relying on definitions written for securities alone. One practitioner draft goes as far as proposing model language: a modern NDA should define “use” of confidential information to include any exploitation of it to gain an advantage in “financial instruments, wagers, or prediction markets, whether or not such instruments are securities.” Firms making this update once, rather than patching it after an incident, should also extend firm-wide codes of conduct, not just insider trading policies limited to a designated-persons list, since prediction market access isn’t confined to the employees a typical restricted list already covers.
What Else We Are Watching
A few open questions the industry may not have fully reckoned with yet:
- Whose laws and rules apply, and does the misappropriation theory even need a prediction market Panuwat?
Event contracts are CFTC-regulated commodity instruments, not SEC-regulated securities, but that jurisdictional line is fuzzier, and the enforcement path more settled, than it first appears. The CFTC’s anti-fraud authority (under CEA Section 6(c)(1) and Rule 180.1) is modeled directly on Rule 10b-5, and the CFTC has used it to bring misappropriation-theory cases against trading-firm employees for years, not just against soldiers and Google engineers this year. The controlling test, set out in CFTC v. EOX Holdings, requires the government to show misappropriated confidential information, a breach of a pre-existing duty of trust and confidence to the source of that information, scienter, and personal benefit, all “in connection with” a commodity contract. - Notice what’s missing: nothing in that test requires the commodity contract traded to be the one the confidential information was actually about. Unlike Rule 10b-5’s classical framework, which needed years of litigation culminating in Panuwat to establish that trading a different, correlated security still counts, Rule 180.1’s misappropriation test may already structurally accommodate the shadow fact pattern without any doctrinal extension at all. The CFTC’s own February 2026 Prediction Markets Advisory (Release 9185-26) backs this up, stating plainly that the agency has “full authority” to police misappropriation-based insider trading on designated contract markets.
That does not mean the SEC is out of the picture. The SEC’s own chair has said publicly that “a security is a security regardless of how it’s structured,” signaling the SEC may claim jurisdiction where an event contract is tied closely enough to a specific company’s stock or a corporate event to resemble a security-based swap. Ironically, that mostly affects the direct form of prediction market insider trading, betting on a contract about your own company, more than the shadow variant this piece is about.
A shadow trader deliberately avoids company-specific contracts in favor of a correlated sector or macro bet, which is exactly the fact pattern that tends to stay inside CFTC territory rather than triggering dual SEC exposure.
And prosecutors have a third option that sidesteps the SEC/CFTC line entirely: wire fraud (18 U.S.C. Section 1343) only requires a scheme to obtain money by deception, not proof that the instrument traded was a security or a commodity at all, which is why DOJ has charged it in parallel with CFTC claims in every prediction market case brought so far. Whichever agency, or combination of agencies, ultimately writes the enforcement manual for prediction market shadow trading, firms shouldn’t assume the jurisdictional uncertainty buys them time on compliance.
- Structuring across small bets. Individual prediction market positions are often small dollar amounts. An insider could split activity across many contracts or platforms to stay under any single detection threshold, an AML-style structuring problem compliance teams haven’t had to think about for employee trading before.
- Offshore and unmonitored platforms. Not every prediction market operates under US oversight or within a firm’s monitored data feeds. That’s a visibility gap before it’s even a legal one.
- The other direction: manipulation, not just misappropriation. What about an executive betting against an outcome they have some influence over? That’s a conflicts and market integrity question sitting right next to the insider trading one.
Shadow trading took two years to go from theory to conviction to a Ninth Circuit argument. Prediction markets are moving faster than that. Firms that wait for the first enforcement case to update their monitoring will be building it under pressure. Firms that extend their shadow trading playbook now, disclosure, sector-hook surveillance, and timing-based correlation, get ahead of a risk that’s still forming rather than reacting to one that’s already arrived.
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