Polymarket Operation Mechanism Explained: How to Trade Future Events?

In the field of global prediction markets, Polymarket has become an unavoidable name. Since its launch in 2020, this decentralized platform has rapidly risen to prominence, especially during the 2024 U.S. presidential election, where its market around “Will Trump return to the White House?” handled over $3.6 billion in trading volume. According to SimilarWeb data cited by CoinDesk, its platform’s monthly visits once reached 15.9 million, even surpassing some established traditional betting platforms. This marks its transformation from a crypto-native tool into a mainstream platform that attracts mainstream users to forecast a wide range of events in politics, economics, sports, and more.

So, what exactly is the underlying technical architecture and trading principle behind this platform that turns world events into trading markets?

Innovator of Prediction Markets: Polymarket’s Positioning and Evolution

Polymarket is essentially an on-chain prediction market protocol. It allows users to trade on the outcomes of various real-world events, rather than traditional financial assets. From election results and sports events to economic data and crypto prices, almost all verifiable future events can become a market.

On Polymarket, each event is structured as a simple binary question. For example, “Will Bitcoin reach $100,000 before July?” or “Will Candidate X win the election?” The answer to the question is usually only two mutually exclusive outcomes: “Yes” (YES) or “No” (NO). Each outcome corresponds to a tradable “share” token.

Core Trading Logic: How Do Prices, Probabilities, and Returns Come About?

Understanding Polymarket hinges on its unique price formation mechanism. The price of each YES or NO share fluctuates between $0.01 and $0.99, directly reflecting the market’s implied probability of that outcome occurring.

A simple rule runs throughout: 1 YES share + 1 NO share = $1. This invariant is the foundation of the entire system. For example, if the YES share for “BTC surpassing $100,000” is currently priced at $0.75, it indicates that the market collectively believes there is a 75% chance of this happening. Correspondingly, the NO share’s price will automatically be at $0.25, since the two must sum to $1.

When the event is finally resolved, the shares corresponding to the correct outcome will be redeemed at $1 per share, while the incorrect outcome’s shares become worthless. This means that if you bought at a $0.75 YES price and your prediction is correct, your return is approximately 33.3%.

From AMM to Order Book: The Evolution of Pricing Mechanisms

Polymarket’s pricing mechanism is not static. Early on, to address the “cold start” problem of low liquidity in new markets, the platform adopted the Logarithmic Market Scoring Rule (LMSR), a mechanism similar to an automated market maker (AMM). LMSR ensures that buy and sell quotes are available at all times, but its static parameters lead to low capital efficiency and inevitable slippage.

As user and capital scale grew, Polymarket underwent a key paradigm shift to a Central Limit Order Book (CLOB) model. This transition provided a more familiar trading environment for professional traders and market makers, allowing liquidity to be concentrated in the most active price ranges, greatly improving capital efficiency and trading experience.

Technical Architecture Revealed: Hybrid Order Book and On-Chain Settlement

Currently, Polymarket employs a “hybrid decentralized” architecture, balancing user experience and security. All limit orders are submitted and matched off-chain on servers. This allows users to enjoy instant, gas-free order placement and cancellation, similar to centralized exchanges.

When orders are successfully matched off-chain, the final asset settlement is executed on the Polygon blockchain via smart contracts. This on-chain settlement ensures the immutability of transaction results and the secure ownership of funds.

Core Components: Conditional Token Framework and Optimistic Oracle

Polymarket’s core relies on two key technological components: Gnosis’s Conditional Token Framework (CTF) and UMA’s Optimistic Oracle.

CTF is responsible for “tokenizing” event outcomes. Each prediction market’s YES and NO shares are essentially “conditional tokens” created based on the ERC-1155 standard. Users deposit USDC as collateral to mint these shares, and after the event concludes, they can redeem the collateral with the winning shares.

The UMA oracle provides trusted event results. It is a decentralized optimistic oracle operating on game theory principles. Anyone can submit a result proposal and stake a deposit. If no disputes are raised within approximately 2 hours, the result is adopted.

In case of disputes, UMA token holders vote to resolve. Notably, UMA has upgraded to ManagedOptimisticOracleV2 (MOOV2), restricting initial proposal rights to whitelisted addresses to reduce invalid proposals.

How to Get Started: A Simple Guide to Trading on Polymarket

For interested users, participating in Polymarket trading mainly involves the following steps:

• Step 1: Prepare Wallet and Funds

You need a non-custodial wallet like MetaMask and USDC (on Polygon) as trading collateral.

• Step 2: Browse and Select Markets

After connecting your wallet, you can browse a vast array of prediction markets covering politics, finance, technology, sports, and more.

• Step 3: Place Orders

Analyze the event you’re interested in, judge whether the implied market probability aligns with your view. You can choose to execute a market order immediately or place a limit order at your desired price.

• Step 4: Manage Positions and Settlement

Before the event is resolved, you can sell your shares at any time to lock in profits or cut losses. After the event ends, the system will automatically settle, and users holding the correct shares can redeem $1.

Risks and Considerations: Essential Knowledge Before Trading

Despite the innovative mechanism, it is crucial to be aware of the risks and limitations before participating.

Regulatory environment is still evolving. For example, a bill called ORACLE has been proposed in New York State, aiming to ban platforms from offering prediction markets related to sports and political outcomes. Violators could face fines of up to $1,000,000 per day.

Market volatility can be intense. Share prices may fluctuate sharply due to breaking news or public opinion, potentially leading to significant gains or rapid losses.

Technical risks exist. Although core settlement occurs on-chain, third-party tools (such as Telegram trading bots) have experienced security vulnerabilities resulting in asset loss. Users should use the official interface and securely store their private keys.

When talented developers combine blockchain smart contracts, game theory, and economic incentives, a global experiment in predicting the future is born. Here, every piece of news can ripple through the market, and every click can be a vote for a certain future. From the agility of off-chain order books to the robustness of on-chain settlement, from the elegance of the CTF framework to the rigor of the optimistic oracle, Polymarket weaves a web that captures collective wisdom. But every tremor in this network reminds participants: while trading the future, they must also face the inherent uncertainty with clarity.