Robinhood: From Hero to Zero


By Hatem Dhiab

Twitter: hatemdhiab
LinkedIn: hatemdhiab

What a wild week it’s been. In my many years of trading and investing, nothing this strange yet awesome and disturbing at the same time has happened. An army of small investors, gathered on a reddit, a social media site and message board, congregating within a group of 2+million users named Wallstreetbets, took down a few of the most prolific hedge funds and short sellers by coordinating their trades and causing them to lose billions, shuttering a few of them for good.

The media trumpeted a true David vs. Goliath story - an insurrection of sorts - by the retail investor against the establishment. They did it by buying stocks in companies that are mostly shorted (a strategy employed when betting against a stock) by hedge funds mostly. Their targets were companies such as Gamestop, AMC theatres, Blackberry and Nokia - all businesses that are legitimately struggling for one reason or another.

By coordinating via Reddit and buying these stocks collectively to the tune of millions of shares, these small investors sent prices skyrocketing, causing Hedge Funds and other investors to “cover” their shorts. A short squeeze followed, and traders who initially bet prices would fall were forced to buy these stocks at inflated prices in order to forestall even greater losses. In turn, the funds’ scramble to buy further added to the upward pressure on the stocks’ prices.

The David of this story has a broker of choice: Robinhood, a game-like trading app and Silicon Valley darling that has gathered great interest and millions of users the last couple years from do-it-yourselfers and young investors mainly because of its ease of use, sleek UI and zero trading fees.

Amid the feverish buying and selling, Robinhood on Thursday decided to halt trading in these cult stocks without giving a good reason. For most of the day Thursday, they said little of substance, creating a vacuum for conspiracy theories and wild speculation and accusation of market manipulation. Elected officials and leaders from all sides didn’t want to miss the opportunity to slam both Wall Street and Silicon Valley in the same breath and came out in droves with accusations and dismay.

Talk about self-immolation! Robinhood’s decision to restrict trading alienated a big chunk of its user base and caused broad outrage across the spectrum. Why would they do this and hurt millions of their loyal customers? Who would go back to a trading platform responsible for losing them money, no matter what the explanation? How can they ever be trusted again?

Their CEO, appropriately named Vlad and looking like a Hollywood villain, blamed the halt on capital and regulatory requirements and rushed to raise $1 billion overnight from the Venture capital enablers.

In its short life, Robinhood has survived a few stumbles, including a 2018 bungle of unveiling plans for a checking account without talking to regulators first. The trading platform experienced long outages when markets plunged at the outset of the pandemic last year. There were many instances of theft and security issues. They paid hundreds of millions in fines after admittedly skirting many of the rules and laws that govern suitability and protect investors.

The irony not lost in all of this, is a platform, pitched as a way to democratize investing by offering free trades and get millennials investing, has been selling out and swindling its army of devoted and trusting customers from its beginning. The dirty secret that we all knew is that Robinhood's only revenue source since its inception was generated from selling trade order flow to Wall Street high frequency traders such as Virtu, Citadel and Renaissance Technologies so they can “front run” trades. Basically letting ttes hedge funds get better prices for trades that their customers were placing. “Free trades'' were actually very costly to the unsuspecting customers who put their trust in the platform. Instead of upstart young investors, Robinhood’s ultimate customer is the Wall Street establishment.

There are many lessons here, but the biggest one is that when incentives aren’t aligned, bad things can and will happen. Wall Street and Silicon Valley have certainly shown us how easy that can be.

We are proud here at GK that we are able to help many people, young and old get invested, but doing it by providing the proper guidance, safeguarding their interests and teaching them to be successful investors while ensuring they aren’t being taken advantage of.

The Robinhood saga has hopefully taught us that investing isn’t a game. We need to continue to protect investors from bad actors and help them be successful. We need properly functioning, transparent capital markets so our economy can thrive. We also need to be able to trust that our markets aren’t being manipulated so we can continue to invest and reach our goals. All of which came into question this week.

Hatem Dhiab is a Financial Advisor of Santa Monica, Calif-based Gerber Kawasaki Inc., an SEC-registered investment firm with approximately $1.3 billion in assets under management as of 06/30/20. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which course of action may be appropriate for you, consult your financial advisor. No strategy assures success or protects against loss. Readers shouldn't buy any investment without doing their research to determine if the investments are suitable for their situation. “All investments involve risk and one should consult a financial advisor before making any investments. Past performance is not indicative of future results.”