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Last Updated: Friday, 7 December 2007, 13:11 GMT

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How does a betting exchange work?

By Chris Summers
BBC News

Former champion jockey Kieren Fallon, two other riders and three other men have been acquitted of conspiracy to defraud. The allegations stemmed from bets placed on the internet betting exchange Betfair. So what is it and how does it work?

The Betfair office
Betfair takes millions of pounds of bets every day

Betfair is one of the most prominent players in Britain's online gambling industry, which was worth �5.2bn in 2005.

It was founded in 2000 by Andrew Black, who developed the idea on his own laptop in his spare time.

Today the company, which is based in Hammersmith, west London, employs nearly 1,000 staff and has 800,000 registered customers worldwide.

It takes bets on football, boxing, athletics, darts and other sports as well as horse racing. It also offers the chance of betting on events such as the general election, Big Brother and the X Factor.

See how betting exchanges and traditional bookmakers differ

The main differences between Betfair and other bookmakers are:

The customer does not bet directly with Betfair. It simply connects gamblers with opposing views on the outcome of a sporting event. It will only accept a bet if it is matched by another customer and it uses technology to match bets instantaneously. If the bet is large then it is likely that it will be matched with multiple counterparties

Betfair is a no-risk "bookmaker". It makes a guaranteed profit by taking a commission from the winner's net winnings. The commission varies between 2% and 5%

Although wagers can be placed on the telephone, most of Betfair's business occurs on the internet, using credit or debit cards

With Betfair a customer can "lay" a horse - back it to lose - as well as back it to win or be placed

Betfair's odds are expressed in decimal terms (eg 4.1) and not in the traditional way (eg 6-4). 4.1 means that for every pound staked you receive a return of �4.10 which includes the pound stake. The decimal equivalent, therefore, of 2-1 is 3.0

Betfair's market is a free market and the prices are not controlled by the bookmaker.

A traditional betting shop sets its own odds and the customer has to shop around among bookmakers to find better value (eg 7-4 or 13-8 would represent better value than 6-4).

But Betfair allows customers to bet against odds set by other gamblers.

Vodafone Derby winner Kris Kin (right)
The Derby is one of Betfair's biggest betting events

So one person can place odds on the site and see if other customers are attracted to the wager.

For example Mr Jones, from Cardiff, might be offering odds of 4.0 on Black Rum winning the 2.15 at Plumpton and Mr Smith, from Newcastle, might take the bet.

Mr Jones is effectively saying: "I don't think Black Rum will win and I am prepared to pay you if he does."

But Betfair guarantees anonymity so Mr Jones will not know the identity of the person whom he is betting against, and vice versa.

The Old Bailey jury heard that in order to use Betfair and place bets punters must first open an account by registering with the company.

Customers are given a username and a secure password.

Each customer must deposit sufficient funds to cover the bets they are offering.

So, in our example, Mr Jones will have to indicate how much he is willing to risk. At odds of 4.0, if Mr Smith is willing to bet �1,000 then Mr Jones must have �4,000 in his account to be able to accept Mr Smith's bet.

TRADITIONAL BETTING

Traditional betting graphic

High Street bookmaker offers odds of 3-1

Punter Jim places a �1 bet on at 3-1

If he wins Jim gets a total of �4 (�3 plus his �1 stake back)

BETTING EXCHANGE

Betfair graphic

Jim thinks Tottenham will win against Arsenal and is prepared to bet �1

Steve thinks Tottenham will lose and offers odds of 4.0 (3-1). He is effectively risking �4

Betfair automatically matches punters who want to strike a wager. Jim's bet is accepted and matched with Steve's bet

Whoever wins, money is transferred from one account to the other. Betfair earns commission from the winner's takings