The financial crisis of 2008 rocked financial markets and triggered a regulatory response that changed banking forever. Lawmakers around the world created new financial consumer protection and banking oversight policies that imposed extensive data collection, management and reporting requirements on financial institutions. Financial regulators quickly followed suit by passing new rules to implement these laws. These included the extensive General Data Protection Regulation in Europe, as well as the growing field of Know-Your-Customer laws worldwide, which laws require financial firms to collect, track and monitor massive quantities of personal digital information.
In the United States, the centerpiece of the federal response to the crisis was the passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act, which introduced a slew of regulations to solidify the securities and credit markets. The uncertainty that has come with the regulatory changes and oversight has simultaneously upset market positions within securities trading and provided new opportunities for upstarts in the trading space.
Robinhood Markets, one such upstart, has been grabbing headlines consistently over the past few months. Many of these stories have revolved around the platform's disruptive impact in the environment of securities trading and how regulators are reacting.
Over the past decade, financial technology has revolutionized banking, securities and commodities marketplaces by making securities transactions easier and easier for more and more people. While this has opened exciting new opportunities for innovation, it has also sowed the seeds of chaos. As technology and financial markets come together, groundbreaking opportunities arise, but cultures also clash. New technologies disrupt marketplaces, and disruption is seldom well-received in the worlds of finance and securities.
Founded in 2013, Robinhood is a platform that has established a multibillion-dollar valuation by introducing millennials to equities, options and securities trading. In addition to traditional securities, Robinhood users have the option to trade in nontraditional commodities, like cryptocurrencies. Because Robinhood was able to offer brokerage services on a commission-free basis, the startup was able to capture substantial market share from the likes of Charles Schwab and TD Ameritrade.
Robin Hood is a prime example of a financial technology startup that has been able to ride the waves of a shifting securities regulation environment in a manner that has broken new ground in trading practices. Like many groundbreakers, however, Robinhood has not been free from scandal. In December of last year, the Securities and Exchange Commission charged Robin Hood for alleged repeated misstatements to customers that included a failure to accurately disclose revenue sources. The agency's order found that Robinhood’s claim that trading on the platform was “commission-free” and that its services matched or beat its competitors’ was misleading because the platform’s other costs were substantially higher than those of other brokers.
The regulatory action against it has placed Robinhood under increased scrutiny regarding how the platform executes, clears and settles trades. This scrutiny came to a head just days ago in its controversial decision halting sales of securities such as GameStop and AMC and decisions with regard to other stocks.
In late January, after GameStop had been heavily bet against by some big Wall Street hedge funds, members the Reddit community “WallStreetBets” decided to buy the stock and thus push its stock higher. Hedge funds that had sold the company short were forced to cover their losses by buying the surging stock, pushing its price even higher.
GameStop shares had skyrocketed from under $20 as late as January 12 to as high as $483 on January 28.
Robinhood deemed Gamestop and other stocks which were being driven into a frenzy by news and rumors circulating across the web and social media as “meme stocks.” On January 28, it made the unprecedented move of preventing prevent its users from purchasing shares in GameStop, Bed Bath & Beyond, American Airlines, Koss Corp and other popular companies. Users on the Robinhood platform were able to sell positions in these companies but could not purchase shares.
The decision sent shockwaves across the markets and has since elicited a reaction that is leaving investors and regulators alike scratching their heads over the future of both the Robinhood platform and the securities traded through it.
Robinhood justified its action as necessary to solve technical challenges regarding maintaining deposits with clearinghouses in a manner that complied with existing regulations. Still, the platform has lost the trust of much of its userbase of small investors by preventing them from trading freely on the market. Calling the move “highly unusual and concerning,” some experts have alleged that the decision was made in order to benefit big Robinhood clients rather than out of necessity.
Lawsuits have been filed by Robinhood users, one such plaintiff alleging that he was “unable to get fair market value for his options contracts and the manipulation has caused the price of” the stock to fall. These lawsuits, however, will face the general challenge that allows brokerages broad discretion in limiting trades to handle unusual situations and the specific challenge that Robinhood’s customer agreement clearly states that it can suspend trading at any time.
Lawmakers are poised to look into the matter and have scheduled hearings to uncover the causes behind the events of late January. Robin hood's CEO, Vlad Tenev, is expected to testify before the House Financial Services Committee on February 18. There is almost certain to be fallout from the questions Tenev will have to answer.
While the contours of how Congress and the SEC will react are to be determined, it seems clear that congressional and regulatory actions will be taken to ensure that any repeat of what happened to Gamestop and the others will be more carefully regulated and scrutinized in the future.