Seeking Alpha’s Logan Kane conducted a deep dive on the practices of famous crypto and stock trading mobile app, Robinhood. Mr. Kane said that “it seems that today’s Robinhood takes from the millennial and gives to the high-frequency trader. Not only does Robinhood accept payment for order flow, but on a back-of-the-envelope calculation, they appear to be selling their customers’ orders for over ten times as much as other brokers who engage in the practice.”
Robinhood has taken both the cryptocurrency exchange market and the legacy retail stock exchange market by storm, providing commission-free trades. The startup has earned a multi-billion dollar valuation shortly. Such facts have given it a lot of positive media coverage. However, greater scrutiny comes with success, and particularly when a loss leader business model is overriding its product adoption.
“It appears from recent SEC filings that high-frequency trading firms are paying Robinhood over 10 times as much as they pay to other discount brokerages for the same volume,” Mr. Kane claimed.
The journalist accused Robinhood of being less than transparent. Mr. Kane’s curiosity was flamed while encountering the firm’s promotion of commission-free trades. He asserted that “after digging through their SEC filings, it seems that today’s Robinhood takes from the millennial and gives to the high-frequency trader.” Moreover, not only “does Robinhood accept payment for order flow, but on a back-of-the-envelope calculation, they appear to be selling their customers’ orders for over ten times as much as other brokers who engage in the practice. It’s a conflict of interest and is bad for you as a customer.”
Upon highlighting industry skepticism on high-frequency trading, whereby some enterprises let clients decide how orders are routed, Mr. Kane insisted:
“Robinhood not only engages in selling customer orders but seems to be making far more than their competitors from it. Among brokers that receive payment for order flow, it’s typically a small percentage of their revenue but a big chunk of change nonetheless. Robinhood appears to be operating differently.”
The journalist is uncomfortable with the companies selected by Robinhood to sell order flow, especially Citadel. He scorned:
“The people Robinhood sells your orders to are certainly not saints. Citadel was fined 22 million dollars by the SEC for violations of securities laws in 2017 […] It’s easy to miss, but there is a material difference in the disclosures between what Robinhood and other discount brokers are showing that suggests that something is going on behind the scenes that we don’t understand at Robinhood.”
Diving into the rule 206 disclosure of Robinhood with the US SEC, he compares the firm with more established players in the retail space such as Etrade and TD Ameritrade, saying “both report their payments for order flow as roughly a tenth of a penny per share.” Robinhood reported it as “per dollar of executed trade value,” which Mr. Kane notes means “the number you see in their filing looks smaller if you don’t have the filings from their competitors in front of you, but it’s actually much higher.”
Curious why its numbers are ten times that of other retail exchanges, Mr. Kane remembers how “before they founded Robinhood, the cofounders of Robinhood built software for hedge funds and high-frequency traders.” He thinks it is suspicious that the company refused to disclose the amount they are getting paid for every share, and instead “report per dollar of trade value where the number can look smaller.”
Mr. Kane believes it “raises questions about the quality of execution that Robinhood provides if their true customers are” high-frequency trading companies. The no-commission model may inflate trade volume, making the consumer, the investor, the product instead of the financial service or package. “The only reason high-frequency traders would pay Robinhood tens to hundreds of millions of dollars,” he said, “is that they can exploit the retail customers for far more than they pay Robinhood. I also wonder if they are getting paid so much by [high-frequency trading] firms, they might be getting paid by similar firms in the crypto space. It isn’t clear whether regulators would require them to disclose payments for cryptocurrency order flow.”