Kalshi’s lawyers argue in a new brief that the U.S. Court of Appeals for the Second Circuit already determined that the Commodity Exchange Act (CEA) preempted state law 45 years ago and that district court rulings ignored this when ruling against the prediction market.
Kalshi submitted a new brief in the Second Circuit on Wednesday in its lawsuit against the state of Connecticut over the legality of sports event contracts. In it, Kalshi argues that a 1981 case about a series of events known as “The Maine Potato War of 1976” is key to the legality of sports event contracts.
The appeal is in response to a district court decision to deny Kalshi an injunction that would have protected it from Connecticut’s efforts to enforce its gambling laws. The district court’s opinion was comprehensive, ruling against Kalshi on just about every possible argument.
“The district court got all this exactly backwards,” Kalshi’s brief said. “It began by finding that Kalshi’s sports-event contracts are not swaps, then determined that even if they were, the CEA does not preempt the application of state gambling laws.”
Kalshi also has a separate Second Circuit appeal that followed a decision in New York. The cases will be heard together when it is time for oral arguments, which have not been scheduled yet, but for now the written briefs are separate.
Second Circuit already found preemption?
Part of Kalshi’s argument is that the Second Circuit had already ruled that the Commodity Exchange Act preempts state laws back in 1981, in the case Leist v. Simplot.
A group of potato processing companies, including J. R. Simplot, built a big short position in Maine potato futures, which would pay out profitably if potato prices fell.
Meanwhile, a group of produce wholesalers built a long position, which would pay out if potato prices rose. This group attempted a “short squeeze,” an effort to push the price of an asset up until the short holders can’t afford to keep their positions any longer, forcing them to abandon their short positions and drive the price even higher. The group allegedly tied up railroad cars to prevent shipments from being delivered.
The Second Circuit was tasked with determining whether ordinary traders caught in the middle could sue the long and short groups.
As part of that case, the Second Circuit attempted to determine whether the issues at stake were “traditionally relegated to state law.” It said they were not because the CEA granting “exclusive jurisdiction” to the CFTC “preempts the application of state law.”
In some ways, this is very different to Kalshi’s situation, most notably because sports betting is traditionally an area of state law. However, Kalshi argued that the court’s statement of preemption was a wide-reaching one, meant to apply to all kinds of state law. In addition, it found that the district court’s failure to even address Leist was a sign that it had erred.
“This Court already recognized [in Leist] that the CEA ‘preempts the application of state law,’ — a holding the district court did not cite, let alone distinguish,” Kalshi’s brief said.
“The district court’s failure to acknowledge Leist is only the beginning of the problems with its preemption rationale.”
Preemption alone not enough
Finding that preemption exists wouldn’t be enough alone for Kalshi to win the case. In fact, the Ninth Circuit found that the “exclusive jurisdiction” language was a signal of preemption, but still ruled against the prediction market.
In past cases, Kalshi has generally also had to prove that its sports contracts are “swaps” in order to show that the preemption in question actually applies to the contracts.
According to the CEA, a swap “is dependent on the occurrence, nonoccurrence, or the extent of the occurrence of an event or contingency associated with a potential financial, economic, or commercial consequence.” The district court found that the winner of a sports game is not an “occurrence of an event” and that sports games were not associated with financial consequences.
Kalshi’s legal team laid out arguments why sports contracts are swaps again in the Second Circuit. They argued that the state’s interpretation would be unworkable, allowing some sports contracts to be offered but not others in a manner that may appear to be arbitrary.
“The district court’s interpretation is impossible to apply,” Kalshi’s brief said. “Under that logic, Kalshi could list a contract regarding whether the World Series goes to game seven but not a contract regarding whether one team will win a majority of the first six games. That cannot be right.”
But do contracts need to be swaps?
However, Kalshi’s brief also brought up an argument that has become a larger part of its case in recent months — that sports event contracts do not have to be swaps to be exempt from state gambling law.
Many courts, especially those ruling in recent months, have been skeptical of the idea that Kalshi’s contracts meet the definition of a swap, so this argument would potentially give the prediction market another potential path to victory.
The CEA says that the CFTC has “exclusive jurisdiction … with respect to accounts, agreements, and transactions involving swaps … traded or executed on a contract market designated” under the CEA.
States and courts have generally understood this to mean that the CFTC has exclusive jurisdiction over accounts involving swaps, agreements involving swaps, or transactions involving swaps. However, Kalshi’s lawyers argue that the passage actually says the CFTC has exclusive jurisdiction over accounts on a designated contract market, agreements on a designated contract market, and transactions involving swaps on a designated contract market.
Kalshi also advanced this argument in oral arguments in a case in Maine. However, the judge gave it little time and tried to redirect the conversation back to whether the contracts were swaps.
Kalshi losing streak
Kalshi is looking for a change of fortune in the courts, having lost its last 15 consecutive federal court decisions.
The Sixth and Ninth Circuits have both ruled against Kalshi, while the Third ruled in Kalshi’s favor last year. Besides the Second Circuit, the Fourth, Seventh, Eighth, and Tenth Circuits are also considering cases about the legality of Kalshi’s sports contracts.
