How do Decentralized Prediction Markets Verify Real-World Event Outcomes?
Decentralized prediction markets verify real-world event outcomes primarily through oracles, which act as a bridge between the real world and the blockchain. This system replaces a single, central authority with decentralized, trustless mechanisms to determine and confirm event results.
Here is a breakdown of how it works:
- The Oracle mechanism
An oracle is a service that fetches external data from reliable sources and feeds it to the smart contract that governs the prediction market. For a decentralized market, the oracle itself is decentralized to avoid a single point of failure and to prevent manipulation.
- Multiple sources: Decentralized oracles gather information from a variety of sources, such as news agencies, sports statistics providers, and government websites. These oracles are often run by independent “node operators” that are incentivized to report accurate data.
- Consensus: The data from different sources is aggregated and checked for consensus. This prevents a single compromised source from corrupting the final outcome. For example, a sports oracle might aggregate data from SportsDataIO and Sportmonks.
- Tamper-resistance: Oracles use cryptographic proofs to verify that the off-chain data has not been tampered with before it is delivered to the smart contract.
- Dispute resolution
Most decentralized prediction markets include a dispute resolution process that allows users to challenge an outcome if they believe the oracle has reported it incorrectly. This adds another layer of security and transparency.
- Staking: In this process, users can stake tokens to challenge an oracle’s proposed outcome. If the challenge is successful, the challenger receives a reward. If the challenge fails, they lose their staked collateral.
- Governance vote: If a dispute is challenged, it can be put to a wider governance vote by holders of the platform’s native tokens. These token holders are economically incentivized to vote for the correct outcome, as they face a financial penalty if they vote with the losing side.
Example: How Polymarket uses UMA OraclesPolymarket, a popular decentralized prediction market, uses a system called the UMA Optimistic Oracle to resolve its markets.
- Proposed outcome: When an event concludes, someone proposes an outcome by posting a bond in USDC, the collateral used on the platform.
- Challenge period: There is a two-hour period during which anyone can challenge the proposed outcome by posting a matching bond.
- Governance vote: If the outcome is challenged, it goes to a vote by UMA token holders. The tokens are locked during the voting process, and the outcome is determined by a majority vote.
- Final resolution: Once the outcome is finalized, the smart contract automatically settles the market and distributes the funds to the winning token holders.
The importance of decentralization
By using a decentralized network of oracles and a dispute resolution system, these platforms ensure that no single person or entity controls the final outcome of an event. This makes the markets more resistant to censorship and manipulation than traditional, centralized betting operations.