Perhaps it is in the spirit of March Madness and bracketology, but the Commodity Futures Trading Commission (CFTC or Commission) recently acknowledged consideration of a proposal by a sports gambling company to allow state-licensed sportsbooks and certain NFL-stadium owners and vendors to trade future contracts tied to NFL game outcomes.

The proposal, submitted by Eris Exchange, LLC (ErisX), seeks to list three types of NFL futures contracts on ErisX’s Regulated Sports Book Index Exchange (RSBIX). The contracts under review are tied to three common NFL game bets: money lines, point spreads, and total points scored in an individual game (over/unders). ErisX’s proposal would limit exchange participants to “eligible contract participants” and would allow only licensed sportsbooks, stadium owners and vendors, and qualified market makers to trade on the exchange—i.e., not individual investors or other investment funds with no connection to NFL stadium operations.

ErisX’s proposal follows closely on the heels of Murphy v. National Collegiate Athletic Association, 128 S. Ct. 1461 (May 14, 2018), a 2018 Supreme Court decision that invalidated a federal law prohibiting state-sanctioned sports gambling. In the three years since Murphy was decided, 25 states and the District of Columbia have passed laws authorizing sports betting by licensed sportsbooks. Notwithstanding this sea change in state sports gambling laws, however, the federal Wire Act of 1961—which remains good law—still prohibits multistate sports gambling operations. The upshot is that sportsbooks must balance their books only with bets generated within their licensed state, which can cause significant financial risk, including because of regional sports biases or allegiances creating lopsided betting.

As an example, suppose 80 percent of bets placed through an Illinois-sportsbook were to select the Chicago Bears to win a game outright against the Green Bay Packers (i.e., money line bets).  Should the Bears prevail, the Illinois-sportsbook could stand to lose significant money because of this lopsided action. The Wire Act currently restricts that same Illinois sportsbook from balancing their books with money line Packers bets placed in other states, however, so ErisX’s proposal, in theory, could supply necessary liquidity to the Illinois sportsbook and create a stronger balance sheet for the sportsbook entity as a whole.

The NFL game event future contracts proposed by ErisX implicate a number of legal issues under existing CFTC regulations, some of which are reflected in the Commission’s six questions that were posed as part of the public comment process for ErisX’s proposal:

1. Do any of these contracts involve, relate to, or reference gaming as described in Commission regulation 40.11(a)(1)?
2. Do any of these contracts involve, relate to, or reference “an activity that is unlawful under any State or Federal law” as described in Commission regulation 40.11(a)(1)?
3. ErisX has proposed to restrict participation in the futures contracts. If such contracts are determined to involve, relate to, or reference gaming or an activity that is unlawful under any State or Federal law, are ErisX’s proposed participation restrictions relevant to the Commission’s determination of whether one or more of the contracts serve an economic purpose and thus may impact the Commission’s determination on whether such contracts are contrary to the public interest? If so, how should such restrictions impact the Commission’s determination of whether one or more of the contracts serve an economic interest and thus may impact the Commission’s determination on whether such contracts are contrary to the public interest?
4. In determining whether any of these contracts falls under the prohibition pursuant to Commission regulation 40.11(a)(1) as an activity that is unlawful under any State or Federal law, to what extent should the Commission be influenced by whether all states’ laws permit gaming (including sports gaming), and/or by the prohibition of interstate betting under Federal law?
5. Could the trading of these contracts that involve sports gaming create incentives to influence the outcome of a sporting event or other outcomes related to sporting events? What mechanisms would be available to the Commission or to the DCM to surveil for, and guard against, manipulation of these contracts through manipulation of sporting events or other outcomes related to sporting events?
6. What factors should the Commission consider in determining whether these contracts are “contrary to the public interest”?

While each of these Questions merits its own Blog post, below are our initial reactions to Question Nos. 1, 2, and 3, which raise significant legal issues for the Commission to resolve before it permits ErisX to place its proposed contracts on the RSBIX exchange.

Question No. 1: Do any of these contracts involve, relate to, or reference gaming as described in Commission regulation 40.11(a)(1)?

Current CFTC regulations promulgated under the Dodd-Frank Act give the CFTC broad authority to determine whether “event contracts” may be listed on an exchange. The Commission has previously defined event contracts as “financial agreements linked to eventualities or measures that neither derive from, nor correlate with, market prices or broad economic or commercial measures.” A future contract related to the outcome of an NFL game would be further classified by the Commission as a “binary” event contract, meaning a contract that pays out a fixed sum of money depending on the occurrence of a future event. Common binary event contracts currently traded on exchanges include contracts tied to changes in market indices, corporate earnings, and weather events.

CFTC regulations bar certain types of event contracts from being listed on any exchange, however, including event contracts tied to “terrorism, assassination, war, gaming, or an activity that is unlawful under any State or Federal law,” or event contracts that are otherwise contrary to the public interest. 17 C.F.R. § 40.11(a)(1)–(2) (emphasis added). A key question for the CFTC in considering ErisX’s proposal is thus whether the NFL future contracts constitute “gaming” event contracts.

The Commission previously has explained it will define the scope of “gaming” under its regulations on a “case-by-case” basis. ErisX’s position is that their proposed contracts do not fall within this definition because the purpose of the contracts is to facilitate commercial hedging based on game outcomes and not for a predominant purpose of gambling or wagering on game outcomes. Absent clear standards for distinguishing “gaming” under the CFTC regulations from event-based contracts tied to sporting events, it will be interesting to see where the Commission lands on this question.

Question No. 2: Do any of these contracts involve, relate to, or reference “an activity that is unlawful under any State or Federal law” as described in Commission regulation 40.11(a)(1)?

It is difficult to square ErisX’s proposal with Section 40.11(a)(1)’s prohibition on event contracts tied to activities that are “unlawful under any State or Federal law,” because as discussed above 25 states currently prohibit sports gambling by individual persons. There is a nonfrivolous argument that the sports event contracts under consideration are consistent with this provision since individual investors may not participate on the RSBIX exchange. Further, ErisX’s characterization of their proposed contracts emphasizes that they are not connected with customer bets but on the outcomes of games themselves. In other words, the contracts do not constitute gambling but are designed for commercial hedging of financial risk. Because this is a novel legal issue, it is difficult to predict where the Commission will land on this question, as well.

Question No. 3: ErisX has proposed to restrict participation in the futures contracts. If such contracts are determined to involve, relate to, or reference gaming or an activity that is unlawful under any State or Federal law, are ErisX’s proposed participation restrictions relevant to the Commission’s determination of whether one or more of the contracts serve an economic purpose and thus may impact the Commission’s determination on whether such contracts are contrary to the public interest? If so, how should such restrictions impact the Commission’s determination of whether one or more of the contracts serve an economic interest and thus may impact the Commission’s determination on whether such contracts are contrary to the public interest?

ErisX’s proposed restriction on exchange participants to sportsbooks, stadium owners and vendors, and market makers fronts the concern of making the exchange available to individual investors who may trade the proposed contracts for a predominant purpose of gambling or speculating, which the CFTC prohibits. ErisX offers a plausible justification for limiting the exchange to stadium owners and vendors by asserting that a team’s win-loss record is a significant driver of event revenues, but currently stadium-affiliated entities are forced to absorb the commercial risk of a poor season without adequate protections.  Allowing such entities to participate on the exchange, the argument goes, would give them a new source of financial risk management to offset revenue losses from reduced ticket sales because of a losing season.

Notably though, while several sportsbook companies submitted public comments in support of ErisX’s proposal, not a single stadium owner or stadium vendor did so, which plausibly suggests the non-sportsbook beneficiaries of the proposed contracts do not share the same level of interest in ErisX’s proposal as state-sanctioned sportsbooks do. Further, it seems difficult as a matter of CFTC policy to distinguish stadium owners and vendors, which would be allowed to trade on the exchange, from restaurants and retail stores located near stadiums that derive substantially all of their revenues from home games. On the other hand, simply barring individual investors may go a long way to assuage the Commission’s concerns that the contracts would be traded predominantly for gambling purposes and not for proper commercial hedging.

Should the CFTC accept its proposal, ErisX plans to create additional future contracts tied to NBA games and to seek their inclusion on the exchange in short order. The Commission should issue its decision sometime in April 2021.