WASHINGTON, D.C.— In a San Francisco Chronicle Op Ed published today, Better Markets’ President and CEO Dennis Kelleher details financial firm Robinhood’s predatory practices and the need for a “Real Robin Hood” on Wall Street that actually “provides Main Street investors genuine opportunities to affordably trade, invest and build wealth.” The full Op Ed can be found below and online here:
Main Street Needs True Robin Hood
The bad news for stock brokerage firm Robinhood, its retail customers and investors keeps on coming.
Last week, the firm that claimed to be launching a “new Wall Street” announced its latest round of layoffs, bringing the total job cuts since April to about one-third of its entire workforce. This announcement came shortly after Robinhood received its latest regulatory sanction — this time by the New York Department of Financial Services, which fined the brokerage $30 million for violating anti-money-laundering, cybersecurity and consumer protection rules.
Robinhood’s stock price has fallen to around $11 a share, down from its $38 initial public offering a year ago, and its retail traders have fared even worse, which is why monthly active users have plummeted to 14 million from a peak of 21.3 million in the second quarter of 2021.
Whether Robinhood ushers in a “new Wall Street” or not, there’s no question that the old Wall Street has been too exclusive, expensive, opaque and complicated for too long. Much of that is intentional and by design to enable large, entrenched financial firms to extract wealth from the unwary. That status quo provided an opening for upstart firms like Robinhood to pitch Main Street investors, claiming that they were going to “democratize Wall Street” with easy access to stock market riches and less expensive, if not free, financial products and services.
But riches don’t come easy, and nothing is free on Wall Street.
Robinhood perfected slick marketing, predatory app features, hip logos and even used a legendary folk hero’s name to mask its self-enrichment scheme (in addition to outright illegal conduct that has been sanctioned by regulators repeatedly).
This pandemonium burst into the public consciousness in January 2021, when a trading frenzy erupted in the stock market around so-called “meme stocks” such as Blackberry, AMC and, most notably, GameStop, whose value skyrocketed to unimaginable heights despite dim business prospects. In just 16 days in January 2021, GameStop’s share price rose by 1,600% for no apparent financial reason (as detailed in a recent report by the majority staff of the House Financial Services Committee).
The trading frenzy was fueled by new and inexperienced traders discussing meme stocks on forums such as Reddit’s r/wallstreetbets subreddit — many of whom were determined to hurt hedge funds for placing negative bets on those companies, known as shorting their stocks. This movement became known as the “Reddit rebellion” and inflicted billions of dollars of losses on several hedge funds, ultimately driving one, Melvin Capital, into liquidation.
The weapon of choice used by the retail meme-stock traders were mobile phone-based apps like Robinhood, which offered so-called “commission-free” trades via a fun and engaging user interface. However, after the 1,600% stock run-up, Robinhood suddenly prohibited customers from buying GameStop (and other meme stocks), which triggered a sudden and dramatic price drop. This enabled the hedge funds to minimize their losses by buying the stock as it dropped in price, but inflicted losses on the retail traders who bought the stock near the top or on the way up.
This move by Robinhood raised serious questions about how the company made its money and its relationships with other Wall Street firms like Citadel, other high frequency trading firms and short-selling hedge funds — the main players benefiting from the current system it claimed to be upending. It also highlighted the economics of these business practices: Retail investors suffered “staggering losses” while billionaires like Citadel owner Ken Griffin continue to profit. And as for the Robinhood founders, they became billionaires.
While no evidence has emerged suggesting anything illegal with regard to the buying halt, the incident revealed Robinhood’s real customers: powerful Wall Street firms that enriched themselves at the expense of retail traders by the “payment for order flow” (PFOF) compensation practice.
PFOF is when retail brokers like Robinhood sell their retail customers’ orders to the highest bidder. The revenue from PFOF is what enables Robinhood to then offer their retail customers what they call “commission-free trading.” But it’s not free. PFOF revenue are proceeds from the retail traders’ trades that otherwise would have gone to the retail traders. In fact, a 2020 Securities and Exchange Commission enforcement action against Robinhood showed that the PFOF revenue extracted from the retail traders’ orders exceeded what retail traders would have paid if charged a commission and that Robinhood intentionally misrepresented that business practice to its customers. Moreover, to maximize the revenue generated from the PFOF practice, trading apps (including Robinhood) use predatory “digital engagement practices” and other gamification techniques to get users to thoughtlessly trade more often and to trade riskier products.
Wall Street and the financial industry more generally can and should be democratized, but the Robinhood model based on maximizing frequent high-risk trading, prompted by predatory gamified apps to generate as much PFOF as possible, is not how. These are exploitative practices that enrich Wall Street often at the expense of those least able to afford the losses.
That isn’t how it has to be. Equity markets and finance more generally can be “democratized” (meaning lower costs, easier access, a more delightful experience, etc.) without exploitation, manipulation and predators enriching themselves. Main Street investors need a real Robin Hood. Not one who takes from the rich to give to the poor, but who provides Main Street investors genuine opportunities to affordably trade, invest and build wealth.