Robinhood

In this article, Shruti CHAND (ESSEC Business School, Grande Ecole Program – Master in Management, 2020-2022) elaborates on Robinhood Markets.

This read will help you get started with understanding Robinhood and how it is used in today’s world.

Introduction

‘Investing for everyone’ – these are the first words you’d read if you were to visit Robinhood’s website. And that’s exactly what it stands for. Robinhood Markets, Inc is an American financial services company that offers commission-free trading through its website and mobile app. Its name is justified by their mission i.e. to ‘provide everyone with access to the financial markets, not just the wealthy.’

Since it was founded in 2013, this Silicon Valley-based firm has tried to disrupt the trading industry. It facilitated buying of fractions of a share, no minimum balance requirement for opening an account, and the best of all – free trades. Free trades weren’t a norm back in the day as it is today. With the onset of the pandemic, and the rise of new-age traders, zero-commission brokerage firms became immensely popular, and Robinhood stole the spotlight.

Homepage of Robinhood’s website

‘With great power comes great responsibility’

Its immense popularity made it face strong backlash too. Many believed that this app is giving great power in the hands of young inexperienced traders along with huge responsibility regarding their trading activity (as they are not assisted by a professional). It’s like giving the keys to a sports car to a 12-year-old boy or girl. In a statement to the Wall Street Journal, a Robinhood spokesperson wrote how they fully realize that their company has become synonymous with retail investing in America, leading to millions of young investors making their first investment through their app and that they do not take this responsibility lightly.

Suicide of a Robinhood trader

In June 2020, a 20-year-old trader on Robinhood died by suicide as he misinterpreted his Robinhood account statement, which temporarily showed a negative balance of $730,000. His suicide note also stated that he had no clue as to what he was doing and that he had no intention of taking so much risk. The company expressed its devastation while expanding its educational resources on options trading and increasing customer support in reaction to this incident.

Roll in 2021 short squeeze

In January 2021, Robinhood restricted the trading access to certain stocks such as GameStop, AMC Entertainment, Nokia, and others during the market frenzy surrounding the r/wallstreetbets subreddit (discussion forum on the Reddit platform) and its members’ attempted short squeeze on the stocks mentioned earlier. This move attracted condemnation from users on Reddit and Twitter, and it was also termed as ‘market manipulation’ to protect hedge funds. One of Robinhood’s primary market makers has some ownership in the hedge fund Melvin Capital which was one of the largest short sellers of GameStop and other stocks. This led many to suspect a conflict of interest, inducing class action lawsuits and the attention of few members of the US Congress.

How does Robinhood make money?

As most fees for equity and options trading evaporate, brokers do have to make money somehow. Robinhood generates income from a broad range of sources including Gold membership fees, stock loans, and rebates from market-makers and trading venues.

The company generates significant revenue from payments for order flow (PFOF). It is a common although controversial practice whereby brokers receive payment from market-makers in form of compensation and other benefits for directing their customers’ orders to those trading venues. While the payments might be negligible for small trades, a company that directs billions of dollars in trades can earn substantial amounts. A study suggested that in 2018, PFOF accounted for more than 40% of Robinhood’s overall revenue.

Other sources of revenue include a $5 monthly fee for optional membership to Robinhood Gold, which provides client access to margin loans and investing tools; interest on uninvested cash; lending stocks for short selling; and fees on purchases made using the company’s debit card.

Related posts on the SimTrade blog

   ▶ Shruti CHAND WallStreetBets

   ▶ Raphaël ROERO DE CORTANZE Gamestop: how a group of nostalgic nerds overturned a short-selling strategy

   ▶ Akshit GUPTA Short Selling

   ▶ Alexandre VERLET The GameStop saga

Relevance to the SimTrade certificate

This post deals with Robinhood Markets which is used by various traders and investors in different instruments. This can be learned in the SimTrade Certificate:

About theory

• By taking the market orders course, you will know more about how investors can use various strategies to invest in order to trade in the market.

About practice

• By launching the series of Market maker simulations, you can extend your learning about financial markets and trading approaches.

About the author

Article written by Shruti CHAND (ESSEC Business School, Grande Ecole Program – Master in Management, 2020-2022).

WallStreetBets

In this article, Shruti CHAND (ESSEC Business School, Grande Ecole Program – Master in Management, 2020-2022) explains what WallStreetBets is about.

This read will help you get started with understanding WallStreetBets and understand its impact in the stock market.

Meaning of WallStreet Bets

On the social media website Reddit, there are specific online communities that are dedicated to discussion on a particular topic, these are known as subreddits. And, WallStreetBets (r/wallstreetbets), or WSB, is one such subreddit. On WSB, the members discuss stock markets and options trading.

WSB has gained notice due to its aggressive trading strategies, indecent nature, and its role in the GameStop short squeeze. Members of the WSB are often young retail traders who are said to have a highly speculative style of trading that ignores the traditional investment practices and risk-management techniques. Their activity is even considered to be on the lines of gambling.

The growth of such individual investors has been powered by the rise of no-commission brokers and mobile online trading platforms (like Robinhood) which have made trading easy and accessible to everyone. Members of these communities like WSB often use high-risk day trading as an opportunity to make quick financial gains and obtain additional income.

The GameStop Short Squeeze

It would be unfair to talk about WSB and not discuss the GameStop Short Squeeze, an incident that threw the market into chaos and disrupted trading.

GameStop, a struggling company in the video games business, had become one of the most bet-against stocks on the market. Many big investors (hedge funds like Melvin Capital et Citron Capital) had taken large short positions on the stock, hoping to cash in on the company’s inevitable failure. Short selling is an incredibly risky strategy as the loss can be infinite when the stock price is going up. Members of WSB are said to have an aversion towards short sellers because of how it affects the financial system.

In January 2021, harnessing the power of the internet, Redditors on WallStreetBets started encouraging each other to buy the GameStop stock to drive the price up, which would adversely affect the short-sellers. This coordinated effort led the GameStop stock price to begin to rise. Eventually, GameStop had become a movement, which was not just about making money but about taking down ‘the man’ and punishing short sellers. It even led to the coining of the term ‘meme stock’. It attracted a huge amount of media attention and the number of members of WSB rose from 2 million to 6 million in a matter of days. As a result, in a mere few weeks, GameStop stock prices increased by a whopping 1700%.

Previously, it was believed that individual investors (also called ‘retail’ investors) have no real impact on the market and that such a thing was only within the capability of the big players of the game. This notion was successfully challenged by this incident. It was seen as the ‘little guys’ taking down the giants of Wall Street. It is believed that this trend of democratization of investing is here to stay.

Epilogue

After the GameStop short squeeze, it was anticipated that such manipulation in stock prices could happen again when groups like WSB target more companies. It turned out to be true as many stocks like AMC, Blackberry, etc. saw a surge in prices in an apparent Reddit-fuelled short squeeze.

In the financial world, WallStreetBets has received varied reactions. Trading platforms like Robinhood have tried to curb the power of Redditors by limiting transactions on the grounds of protecting customers. Many analysts and investors have derided and leveled insults at the WallStreetBets investors.

Whatever the future may hold, it is apparent that together, these amateur investors are changing some long-held beliefs about investing and they are gaining influence in the market in the process. Their online interactions have led to the reshaping of the power dynamic between retail and institutional investors.

Related posts on the SimTrade blog

   ▶ Shruti CHAND Robinhood

   ▶ Raphaël ROERO DE CORTANZE Gamestop: how a group of nostalgic nerds overturned a short-selling strategy

   ▶ Akshit GUPTA Short Selling

   ▶ Alexandre VERLET The GameStop saga

Useful resources

WallStreetBets

Relevance to the SimTrade certificate

This post deals with WallStreetBets in the Stock Market. More so, we learnt that retail investors can also have a real impact in the market.

About practice

• By launching the series of Trading Exercises, you will practice how investors can become an investor in the stock market.

About the author

Article written in May 2021 by Shruti CHAND (ESSEC Business School, Grande Ecole Program – Master in Management, 2020-2022).