SEC charges Robinhood $65M for misleading customers about revenue sources
sec.gov
sec.gov
Full order: https://www.sec.gov/litigation/admin/2020/33-10906.pdf
This is more like you want to buy something at 100. Robinhood then goes to the market and looks at all the vendors. The vendors are selling at various prices. Robinhood has a relationship with one of the vendors so they went there and that vendor was willing to sell at 98. However, a vendor down the street (that Robinhood doesn't like) would have been willing to sell at 97.
None of that is illegal. What the SEC is arguing here is that Robinhood didn't tell the customers this when they advertised "commision-free" trades. In Robinhood's eyes, they didn't charge a commission, so this was accurate. But in the SEC eyes, the customer was paying a "hidden" commission because they would get a slightly worse price than if they went with a different broker.
Imagine you are Fidelity... All of a sudden, you have Robinhood advertising "commission-free" and you just lost a good chunk of business from retail traders. You then complain to the SEC because the advertising here is not entirely accurate - the customers might have even gotten a better price with Fidelity - even if you add in the commission.
FTA: > The order finds that Robinhood provided inferior trade prices that in aggregate deprived customers of $34.1 million even after taking into account the savings from not paying a commission.
The limit in a limit order is really an orthogonal concept.
I learned so much in this thread, making it one of my favorites. And showing again why HN is the great thing it is.
Also, even I wasn't really right, RH and others sure found a way to price and sell an existing service better than incumbents. And in good disruptive tradition seem to have ignored certain regulations.
But the NBBO captures pricing from all kinds of traders. Retail traders are cheaper to trade with than institutional traders, because retail traders aren't moving gigantic blocks of stock that are going to blow up the market makers that are facilitating the trading.
Everybody knows that retail traders are cheaper to trade with, and everybody knows where the retail trades come from: the retail broker-dealers. So market makers cut deals with retail broker-dealers: they chop up the cost savings between themselves and their customers, who get prices below the NBBO. That's called "price improvement".
What happened here is that Robinhood claimed in its marketing to be obtaining the best available prices for its customers. But it wasn't living up to that claim. Its upstream market makers made it clear to them that they could get more price improvement for their customers, if they took less in PFOF rebates.
The SEC filing suggests that Robinhood was offered 80/20 price-improvement/rebate, and instead took 20/80. The two big problems here: first, 20/80 is worse than other retail brokerages (virtually all of which do PFOF, because none of them are especially competent at actually executing trades) --- even if you factor in the lack of trading fees, and second, Robinhood had claimed in its own marketing that they did the opposite.
It's very important for market makers to separate out order flows and assign a toxicity to each flow. This way, they can provide tighter spreads and better execution on less toxic flows while being a little looser for highly toxic institutional flows.
So roughly, the idea is that if I’m smart money (say a big hedge fund or institutional trader), behind any of my trades is an implication that I know something worthwhile. So my trades will move the market, and this can leave market makers holding the bag if prices move quickly.
But if I‘m the proverbial dentist, my trades are just noise that don’t signal anything real about the market. I can get better execution because market makers aren’t worried about my trades moving the price out from under them.
Am I in the right neighborhood here?
I would just sneak in the point that, to my understanding --- and the previous commenter would know better than I do --- one of the big information advantages institutional traders have is simply the knowledge that their order is the first of 1000 identical orders they're about to follow up with.
If that's the risk, though, it's not a risk of loosing money you have, but rather a risk of not making as much money as you could by selling at a higher price, right?
So let's say I'm quoting a tight spread and a small buy order comes in and I get hit. No problem. I don't adjust my quotes because that small of order will not impact the price. But now more orders are coming in from the same institution, buying more and more (basically one big meta-order broken up into small orders so as to conceal intent). If I don't realize that all of these small orders are from the same institution and that they actually represent one big order, I will probably lose money because I am treating each order in isolation. Everytime I sell to the buyer, the price goes up, making me lose money because my spread is too tight and I haven't identified the true intent of the buyer. Every time I sell, I am increasing my short exposure to the asset/derivative, so if the price moves up (against me), I am in a very real sense losing money.
If I can identify the meta order, I can shift my quotes up in order to compensate for the price impact all these small orders are going to have (remember, though they are individually small, they actually represent one big order).
So basically, market making is a game of predicting the short term future price of a security, and quoting buy/sell offers at appropriate levels. The less volatile and less toxic and more liquid a market is, the tighter I can quote. The more volatile and toxic a market is (and less liquid), the looser my spread must be. Remember that I'm not trying to make money on the directional moves of an asset (I'm trying to be "delta neutral"), but rather profit off of the bid-ask spread. My goal is to turn over inventory as quickly as possible (ideally buying and selling at the same exact time).
People get confused, but most hft firms utilize market making strategies. A market maker is just someone who puts limit orders on the book (making) vs taking liquidity off of the book (takeout). Anyone can be a market maker, and many firms do both market making and taking.
[1] https://www.reuters.com/article/us-usa-brokers-fees-idUSKBN1...
[2] https://gdcdyn.interactivebrokers.com/Universal/servlet/Regi...
And hey, no PFOF.
If you have an account value of over $110,000 IBKR will offer you the industry's lowest margin rates (as low as 0.75%, tax deductible) and very competitive order pricing, without PFOF. Of course with a substantial account you can ask any of them to match IBKR margin rates and they likely will.
I sell a lot of margin-secured put options for passive income, and having a 15% portfolio margin maintenance requirement gives me a lot of headroom -- not that I'd ever max it out, I just don't want to be anywhere close. Further the margin impact of out of the money options is also calculated generously.
They also offer access to basically any product in any market anywhere in the world. I sell index futures options in the US for instance, but if you want to trade on Canadian, European, Australian or Asian exchanges, it's just a button click away.
You can also practice tax-aware borrowing and use their debit card to make purchases against your margin, and also, they offer bill pay which works against your margin balance too. My personal economy involves holding a 6-month cash buffer in my bank account, and investing anything that comes in - and borrowing against it to pay bills. Then, I use the proceeds from my short-term options trades, and dividends from my longer-term positions, to pay them off.
You keep saying that a benefit of IBKR Pro is "no PFOF". That's true --- IBKR Pro is I think the only online retail brokerage that doesn't do that.
To my understanding, the only meaningful benefit to "no PFOF" is potentially better price improvement. Which is to say, if you place orders with Ameritrade, which is doing PFOF, you're going to get price improvement over NBBO, but with IBKR Pro, which doesn't, you might get even better price improvement.
In the IBKR Pro case, that's true: according to their advertised price improvement stats, you will get 1/3c of improved price improvement per share as a consequence of trading through them compared to the industry average. Your call whether a third of a penny is meaningful to you.
But in the general case, it might not necessarily be true that "no PFOF" is a benefit; it's all a question of the fees you pay and the price improvement you get with a given brokerage's routing, right?
Am I off here? My sort of baseline belief is that firms like Citadel and Virtu are in fact very good at executing retail orders, and that it'd be weird to have a goal of making sure your dumb retail orders were routed around them.
The price improvement per share also sometimes comes from exchange rebates that they pass through to customers.
Their options broker has and Vanguard is on record as being pro PFOF so it’s not a moral stance and could change any quarter without notice.
I was comfortable with margin/leverage, for a few years I was very successful with a strategy of buying blue chip dividend stocks on margin and essentially running a credit spread trade- it's not for everyone.
But IB is outstanding compared to other brokers around things like this- it really excel for the "prosumer" niche.
(2) Electronic market makers have expertise in order execution and have invested huge amounts of money in software platforms to automate it, which they're effectively renting out to broker-dealers.
(3) Some of these firms have other sources of inventory they can clear trades against.
There are probably 10 other more important reasons I just don't know about.
What I think it comes down to is that order execution is a big job, and being able to effectively answer the phone and run the right billboards and TV ads is also a big job, and firms like Citadel and Virtu are good at the former and firms like Ameritrade are good at the latter.
(1) I don't think you can make a blanket statement about the split and trading fees. If I bought 1 stock for $100 this year I'm better off with the 20/80 split than a trade commission. Conversely, if I bought 10,000 shares @ $100 I would be better off paying a commission and getting a 80/20 split.
It's also not clear what's better for the consumer. If I'm paying a commission then I have to trade sub-optimally in order to batch trades. Maybe I'm better off being able to make a trade for free when I need it even if it costs me more in fees.
(2) This seems like an odd standard. I can take 20% as a rebate because everyone else does, but I can't take 80% because no one else does that. So maybe I can take 25% or maybe 30% or maybe 35% and that's ok. Where exactly is the line?
And if someone launches a competitor called Jesse James and they take 80% does that mean Robinhood is now ok? Or is two not enough? And if two is not enough then how many does it take?
But just for reference I thought Robinhood took all of the improvement! So their marketing definitely wasn't universally misleading.
I would expect market and limit orders to have been handled similarly. Market makers would like to trade with retail investors, and they're willing to pay X for that; if Robinhood takes 80% of X, and passes on 20% to clients as price improvement, and other brokerages pass on 80%, your limit orders may execute sooner at other brokerages (as your limit is effectively 0.6X higher/lower), or may end up executing with bigger price improvement.
[a]: Because class actions technically aren’t about retribution, but discouragement
The cynical take is that Congress profits from insider trading, tax evasion, etc. and want to prevent themselves from being investigated. Whether that’s true or not would be hard to prove.
Possibly too cynical of a take, but I'll reiterate the SEC doesn't care about the people browsing WSB.
Take the example of this SEC investigator [0] whose boss got a call from one of those Wall Street hedge funds under investigation and suddenly he's fired! Mysteriously, that boss gets a job with the same firm a few months later. Oh, the kicker? The person who made that call from the hedge fund? Appointed to be the SEC chair in 2013 (she rejoined the hedge fund's counsel at the end of Obama's term in 2016).
[0]: https://en.wikipedia.org/wiki/Gary_J._Aguirre
e: for those downvoting, I'd love to hear your thoughts - I think it is an interesting issue.
It's not really that complicated to not work for a lobbying firm for 2 years after leaving a chief of staff position for a Senator.
Nor do I particularly want people too dull to figure out those rules to be making laws for our entire country?
You make it sound like there's only like 3 or 4 rules to follow.
> not work for a lobbying firm
it's not really clear ultimately how you're going to enforce that. Laws against lobbying are already treading close to violations of the freedom of speech and right to petition the government; if there are structural problems with how laws are getting enacted, I would suggest thinking about the structural problems in how we are governed more than trying to patch over the system with rules.
I agree with that, I disagree with the idea that lobbying regulations somehow select for unscrupulous individuals - nor was your argument for that idea particularly well-reasoned.
In the EPA, for instance, this was Obama's appointee: https://en.wikipedia.org/wiki/Gina_McCarthy. No significant industry ties. Here's another one of Obama's picks for FDA: https://en.wikipedia.org/wiki/Margaret_Hamburg . Again, no significant industry ties.
I don’t think there should be so much regulatory capture (there is), but I do think a revolving door of sorts for many positions is helpful from a perspective of knowing the regulated industry and acting with the best knowledge of regulating that industry.
Mildly off-topic: What do you think about alternative systems (e.g. UBI) which decouple safety nets from employment? I'm still young and naive, but it seems like we could avoid the whole legal morass of contractor vs hourly employee vs salaried employee who must be paid for extra hours worked vs "real" salaried employee, state constitutional amendments requiring 7/8 supermajorities to overturn, having your health records privy to your employer, having to pay 2x (even accounting for employer contributions) for worse health coverage if you're not employed by _somebody_, and all the other garbage in our current system (forgive the USA-centric view).
At root, legal systems in many western countries only really classify workers as employee/contractor vs self employed etc. The law has not caught up with modern working practices for the new type of gig-economy worker we have. I think a third class that lands halfway between employee and contractor needs to be legally recognized in many places - something that has some benefits and risks from both. Making this new class of worker is an extremely politically loaded decision - do they get holidays? do they get benefits? etc etc and that is really where the difficulties in fixing this start. In most western legal systems this would require some really major legislation to fix well too, and would be attacked by all sides along the way. It's just so hard to put right.
Note: This is complete arm chair lawyering with no real world knowledge
https://www.jonesday.com/en/insights/2016/01/us-supreme-cour...
An increasingly extreme Supreme Court has repeatedly expanded the ability of employers and service providers, including ISPs, to prohibit class actions in their contracts. Even retailers now attempt to compel their customers into forced arbitration.
I would find it incredible that you haven't agreed to binding arbitration many times throughout the normal course of your financial and commercial activity.
And plaintiff securities class action law firms are undoubtedly drafting complaints as we type.
The amount of money per customer is probably a few dollars at most. It wouldn't be efficient to return that money and would probably be better used for future cases and prevention.
Disappointing since they were already fined by FINRA for Best Ex. this time last year although on further reading this seems to relate to the same time period.
Interesting that Massachusettis also announced an enforcement action against them this week.
Too bad it is probably too late on these issues; we're approaching a situation where an increasing amount of "little people" law will be handled in arbitration.
Justice in the US has always provided the best justice money can buy. They're just starting to implement a sort of buyers-club.
This is far more minor by comparison and protects the rights of people to enter into contracts, even those they don't like.
Alas, no. If this were really about money only, you could design a much better system. This ain't the best money can buy. (Perhaps look at some actual business-friendly jurisdictions for examples.)
It's a whole hodge-podge of incentives.
When this was all going down, RobinHood was a plucky startup being praised all around the valley, not a 'large market actor'.
> There's a reason they're called "inalienable." They're not supposed to be self-alienable either.
Not sure which founding father suggested the inalienable right to tort, but apparently he was overruled since it didn't make it's way into any founding documents.
What they do reminds me way too much of https://digitalcommons.law.yale.edu/fss_papers/543/
Settling has nothing to do with a finding of truth.
On the same token, it's doubtful that the SEC would proceed to charge Robinhood if they knew they couldn't make the case stick in court.
There absolutely should be a department whose job isn't corporate financial games, but focused on the cost to the consumer and can require restitution for the consumer.
Anytime a company is fined by the SEC it has to post that at the top of their home page similar to how restaurants have t display health scores. Of course it would need to have a plain English requirement.
Bonus points for having web browsers flag such sites as well similar to how they can flag sites for being breached
Most SEC and similar sanctions are well covered in the media and especially financial press, as we see here.
[1] https://www.scotusblog.com/2020/06/opinion-analysis-justices...
It implies it, but doesn’t guarantee it. Everyone wants to be that hero in the narrative, and by the time the people figure out they have been shirked (but not directly lied to) your company has been acquired and you’re out with bags of money.
Clever, unethical and legal (by the thinnest margin)
And this time the company is named Robinhood? You really can't make that stuff up.
Reading through the comments had me confused, but it really boils down to a misleading FAQ page. All of which is pretty damn funny because of how innocuous I view FAQ pages to be.
That $.0001 savings is known as "price improvement". Separately, the market maker pays a negotiated ahead of time rate to Robinhood for sourcing the order, aka "payment for order flow".
If you and someone else both mashed SELL at the exact same instant, they'd get $48 for their stock and you'd get $47.99 and your confirmation screens would both say "we sold your stock at the highest price we could find".
In exchange for sending their customers to a place where they'd only get $47.99 instead of $48, Robinhood received direct cash payments.
A slight quibble, Robinhood and the SEC settled. There was no fines issued.
I do think that the threat of being sent to jail would be a much better deterrent than the threat of losing 2x the money gained by doing something illegal.
From pretending to be a bank[1], to having a bunch of accounts looted and no ability to stop it[2], now this, and I'm sure others I'm forgetting right now.
It seems this company is really not a smart place to park any serious amount of money with. They don't take their responsibilities very seriously; carelessly flaunting the law and financial regulations.
[1] https://www.axios.com/robinhoods-new-checking-account-b2b0df...
[2] https://www.bloomberg.com/news/articles/2020-10-09/robinhood...
$65M penalty for $35M in misbehavior. That is how you get Wall Street to pay attention. More like this please!
You'd need better than 50-50 odds. ;)
0.5 * -65M + 1 * 34M = +1.5M
They get the +34M 100% of the time, not 50%, they didn't have to surrender it.
So Robinhood took money from its customers to this extent: all the cash as if its customers were paying commissions, and also $34M, and for that they're being fined $65M, which will probably be negotiated down to $2M or something like that.
This might make sense: if users were knowledgeable and had multiple brokers, they may execute at the better trade-specific broker for each trade, so adding up just the potential bads gives some perspective. But on the other hand, it's not a perfect indicator for Robinhood's net gain as its omitting trades where Robinhood's structure leads to lower commission.
I appreciate the work they do and I hope they continue it.
We live in a golden age of fraud. Look up $PEN, $OSTK, pretty much anything published by Muddy Waters.
I don't have strong evidence but I don't regard U.S. food to be particularly safe relative to most first world countries. It's not terrible by any means and you're right in that you won't get any immediate damage from anything you eat, but I suspect most other first world countries have food and safety and health standards that result in better health outcomes over a long period of time compared to U.S. food.
[EDIT] After doing some minimal research it appears my intuition is correct, at least with respect to foodborne illness, the U.S. is certainly good compared to poverty stricken nations, but compared to most of Europe, Canada, Australia it has much higher rates of foodborne illness:
https://en.wikipedia.org/wiki/Foodborne_illness#Comparison_b...
The deaths in the U.S. is the highest, but what's even more interesting are the hospitalizations. U.S. hospitalizations are among the lowest and one has to wonder why that is given that it has the highest death rate. It wouldn't be unreasonable to suspect that because of how expensive the U.S. health care system is, Americans who do get sick avoid going to the hospital altogether. That is admittedly simplified speculation on my part, but it's a starting point for further investigation.
> A report published by the FSA has found it is not possible to compare foodborne disease rates effectively between countries.
> The report concludes that attempting to accurately compare different countries’ foodborne disease rates is an almost impossible task. The only way you could attempt this would be for different countries to have the same type of study with the exact same study specifications, over the same time period. Even then, differences in underlying surveillance data available in each country could cause issues, particularly in terms of determining what proportion of IID cases are due to food.
https://www.food.gov.uk/news-alerts/news/report-into-interna...
Hm. I made this comment elsewhere but:
The SEC has big structural problems. Way too close of ties with the people it is supposed to be regulating.
Take the example of this SEC investigator [0] whose boss got a call from one of those Wall Street hedge funds under investigation and suddenly he's fired! Mysteriously, that boss gets a job with the same firm a few months later. Oh, the kicker? The person who made that call from the hedge fund? Appointed to be the SEC chair in 2013.
https://www.federalpay.org/employees/securities-and-exchange...
The general purpose of the SEC is to investigate, fine and in general "stop" financial crimes in the financial market. This, in theory, requires said investigators to be smarter than the perpetrators or at least somewhere on par. While these folks are paid really well on average... this isn't "fuck you money" like on Wolf of Wallstreet. Even "poor fuck you money" is better than what they make. While I won't dismiss the need for a lot of attorneys and accountants in their profession, 333 examiners doesn't seem adequate against a $440k average salary industry with 176k employees 2018 numbers (https://www.osc.state.ny.us/sites/default/files/reports/docu...). Unless there's much more overlap than I'm imagining.
I mean seriously, if you're smart enough for the financial industry, you need to have a much higher moral code to take the less than half rate of average salary compared to the people you're investigating. Which I'm not knocking. I always respect people who take a moral high ground stance and try to do some actionable good, especially if it's at a detriment to their own wallet. It's just, expectations need to tempered with their overall capabilities. On top, agreeing with you on structure, what kind of hell do some of these folks experience working in a government environment? How many get salty real fast and get all pissed off from the shit they deal with bureaucratic wise along with shitty pay compared to the industry's employee?
There was a line from Burn Notice that I've always attributed to this, "Fighting for the little guy is for suckers". So yea, can we all really trust the SEC? Maybe... but can you really blame them by too much regarding "issues" granted that most of any industry, especially tech & finance, is about jumping to the next better paying job? I mean think of this scenario, "You're going to get fined no matter what happens today. But I can reduce it by half if a moving box full of cash magically appears on my back porch."
The pre-1962 FDA had perhaps the better regulatory framework: back then new drugs had to show safety, now they have to show safety and efficacy.
Off-label prescription show that efficacy requirements are not necessary in practice, and just needlessly delay drugs and make their development more expensive.
I think it's more of a dilemma that off label scrips aren't used more often. Since there's zero monetary incentive to prove efficacy for a second application and doctors generally prefer officially sanctioned uses, lots of patients miss out on helpful treatment.
The suggestion would be to go back to pre-1962 regulations, and put normal and off-label prescriptions on the same footing.
There would never be an inferior execution with limit orders, right?
EDIT: this comment seems to speak to the topic: https://news.ycombinator.com/item?id=25456763
according to ^^ even if you limit buy for $100 they have a duty to get you $99 if it's available.
For example, putting in a limit order at $100 for a share of "X", means that you won't pay more than $100. If the best available price for "X" at the time is $98, and Robinhood gives you a share for $99, that is still an inferior execution.
Basically there are two ways broker-dealers that want to do business with Robinhood or similar firms can provide incentives:
1. Pay the flow provider (i.e., Robinhood) some amount per order/share
2. Provide price improvement over the prevailing market price to the end customer (which the provider can then use to market themselves as providing good execution).
Ultimately both of these are coming out of the broker-dealers bottom line, so the unit economics have to work - (1) and (2) have to leave a positive profit margin on average. Typically a firm like RH would be monitoring execution quality and negotiating price improvement requirements with the broker-dealer. This order finds that RH failed to do that, and likely as a result of their demand for high payment for the order flow, (2) was below their peers while they were stating otherwise in their marketing materials.
It is, honestly, something I struggle with a bit. I don't like it, but it seems like the state of play is that "a little bit" of cheating is expected, and those who don't are at least operating at a handicap. Exactly how wide that gray area is depends on who is advising you, and sometimes results in shops like early-Uber.
One of my least-favorite aspects of SV.
The only people who play fair are those who don't know how to cheat well enough.
Etrade just merged with MS, and a lot of the etrade people are in in the SF Bay Area....
Want to fix this as the problem:
* bar every officer and every director from serving as an officer or a director
* make the fines 30% of revenue
They took payment for order flow (PFOF). So do many of the cheap brokerages on the street.
To me, the funny part is that the old school wall st institutions Robinhood is supposedly disrupting do not take payment for order flow. Morgan Stanley and Merrill will not take it. They go for the best execution quality always.
Although, I do not agree that this practice is necessarily illegal... there’s a simple argument to make: by taking payment over price improvement the broker is able to provide a lower commission. The all in price could still be better for the customer. Robinhood is not skilled enough to navigate this issue though.
From a guy that used to run best ex at a wall st firm...
Does sending order flow to trading firms in itself cause unfavorable execution?
Or did the trading firms treat order flow from RH differently than from other sources?
Or is it something else?
And does the fact that RH was receiving large payments for order flow impact the quality of execution?
The way pay for flow works is that firms can execute against that order agreeing to fill any portion of it up to and including the full 500 shares.
Furthermore by agreeing to pay for flow, it's a criminal offense for my firm to use that information to front run the order by buying it on the open market without first executing against the client. The allegation made by the SEC against Robinhood is that some kind of indirect front running was performed and perhaps even facilitated by Robinhood.
The problem is that the SEC is pretty weak overall, and if their allegation is true then Robinhood should be punished much more severely than this $65M fine given that Robinhood and others likely profited at a minimum some $40M dollars.
I'm not well versed in financial language by any stretch, but i believe it's this.
Matt Taibbi did a piece on them last week and goes into this. https://taibbi.substack.com/p/pandemic-villains-robinhood
> Robinhood receives a fixed rate per spread (vs. a fixed rate per share by the other eBrokers). Rather than receiving simple payment by volume, Robinhood receives a percentage of the spread between the bid and the ask in each trade. This is interesting because while HFT proponents insist their practices narrow spreads, some critics maintain that high-frequency trading ends up widening spreads.
Unfortunately, what this excerpt claims as "interesting" makes no logical sense. The fact that RH is paid by HFT on the spread would suggest that HFT like to get order flow in stocks that already have a large spread. It is completely unclear how this is related to the claim that HFT tend to increase the spread.
The "traditional" interpretation is that HFT make money from creating liquidity. This means they take illiquid stocks (with large spread) and make them liquid (reducing the spread). Since they make money doing that, they are willing to pay for orders in illiquid stocks.
Is this the correct interpretation? I have no clue. But it seems the article's author has even less clue, and adds nothing of value to the discussion.
Now that doesn't seem a lot to you but times the difference (10 cents) by volume and number of Robinhood customers placing orders and it can add up to be a lot.
Second, the allegation made by the SEC, for which they most likely have very strong evidence, is that Robinhood didn't fulfill its duty to execute orders at the best price to the tune of some 30 million dollars.
Is everyone just forgetting the entire purpose of this submission is that Robinhood used pay for order flow to facilitate front running?
>Robinhood failed to seek to obtain the best reasonably available terms when executing customers’
That could mean pretty much anything.
These facts taken together can not be used to "mean pretty much anything". These facts, along with the additional fact that the SEC is charging Robinhood of engaging in illegal activity, strongly suggest illegal activity involving pay for order flow that resulted in worse price execution to the customer.
If you think that means "pretty much anything" then we can simply agree to disagree on this matter.
This sentence doesn't make much sense given how PFOF works. It would make sense if it were flipped around and said "not only worse than competing brokers, but worse than what is available on the market" because brokers typically provide retail traders better than what is available on the market (assuming: public exchanges = market).
I agree with GP that the press release suggests that Robinhood was not giving worse prices than NBBO, but was instead giving prices better than NBBO (like every broker), but intentionally not _as good_ prices as other brokers, in exchange for greater PFOF.
I am not fundamentally against PFOF, but the "honesty" required on the part of the broker in situations like this has always troubled me, and it's interesting to see it rear its head. I think an ideal market structure might keep PFOF, but in a more public way, such that payments were more transparent/competitive in real time, and not something arbitrarily negotiated between brokers and wholesalers.
Front running is an informal term that is used in many different domains to refer to when a principal acting on behalf of a client uses privately obtained information gained from that client to benefit at the client's expense. The term is used in finance, it's used in real estate dealings, heck there was even a scandal involving domain name registrars front running their clients:
http://www.circleid.com/posts/81082_network_solutions_front_...
The more formal and academic term is the principle agent problem:
https://en.wikipedia.org/wiki/Principal%E2%80%93agent_proble...
There is literally a FINRA rule with with front running in the name (5270). It doesn't have to be a technical term for it to still have meaning (outside of Michael Lewis's intent to change its meaning). It specifically refers to a broker trading based on the knowledge of their client's intent to trade. The examples you give actually are instances of the true definition. It doesn't really happen in equities because of how automated and smooth that market is, but it certainly happens in other areas of finance.
The principal agent problem is much more general.
- You trying to buy 100 shares for $100 each - Someone is selling 100 shares for $98 each - RH supposed to fill order at best price ($98) - RH didn't do that.
What is actually being alleged here is that Robinhood did not fulfill their obligation to secure the best price. There is a literal system in the US equities space that says what the best price for a symbol is across the exchanges.
The internalizer can arbitrage this system due to physics & CAP there on but they can also do it in more prosaic ways, by having previous inventory that is priced better or by simply taking the spread between an internal netting (thus internalizing it).
In any case it’s Robinhood who holds the fiduciary duty not the internalizer so if they aren’t getting appropriate execution they need to change their contracts with the internalizers, switch to a different set or send directly to lit exchanges (which destroys their business model & likely gives worse execution than a more fair internalization setup would).
Source: work at a hft market making firm
Similarly in any given market there's the ratio of informed trading to uninformed trading. Generally the former are large institutions, and the latter are small retail daytraders like the Robinhood customers. Since active management is a zero sum game, a venue with all informed traders is not a place you want to trade at.
By law the public exchanges are not allowed to segment order flow. Imagine a club that's legally prohibited from discriminating based on gender at the door. As you can imagine, the ratio at these venue is extremely biased towards informed traders.
Dark pools and internalizers are not bound by that restriction. However they're legally obligated to meet or beat the best price in the public market. (More on that in a second.) Retail brokers like Robinhood are essentially like club promoters, whose job is to get paid for bringing as many pretty girls to these venues as possible. And on the other side the informed traders at these venues (usually just the internal prop desk) pay big money for the privilege of trading somewhere with such a good ratio.
Is this a bad deal for the girls being herded by club promoters? To a first order approximation: no. At the very least they're getting free entry and drinks, instead of paying listed fees at the public venues. Sometimes they even get other perks like free meals or zero-commissions from the promoter. Still it feels exploitive because the promoter is making far more money off the girls than any fringe benefits they're getting.
As a second-order effect, the segmentation may degrade the overall ecosystem. Eventually all the girls wind up at the private clubs, and the public ones become ~100% dudes. Analogously the public lit exchanges have become highly toxic. Which is bad because market makers set prices based on the quality of the flow they interact with.
Remember that price protection on dark pools is based on the best price available at the lit exchanges. This creates a negative feedback loop. Dark venues can improve on prices at lit exchanges by segmenting order flow. Which forces lit market makers to worsen their prices. Which gives the dark venues even more of an advantage, allowing them to price out even more desirable order flow. Which then makes the lit order flow even more toxic, and the public quotes worsen. Which then drives even more flow to dark pools and internalizers...
* Robinhood took a bigger slice of the pie than the other brokerages did.
* Robinhood claimed in marketing materials that they were not taking more of the pie.
* Even factoring in the fee savings, Robinhood took so much of the pie that you'd get a better deal at other brokerages.
The issue on HN is always going to be a litigation about PFOF itself. But that's not the SEC's complaint here; rather, it's that when you enter into a PFOF rebate deal, you dial in profits for yourself against savings for customers. Everybody does that, but Robinhood both (1) turned the dial way towards themselves and (2) claimed otherwise.
The entire industry as some may know is built on 'do your homework' and 'hold long term' is basically a big shared delusion gamble.
The majority of people will make money if the market goes up and lose money if the market goes down.
Investors like things to be cleared up, even with damages, because the damages can be seen as a limited, tangible thing they can just write down and move past.
This reminds me of their debacle where they launched a checking product with a high interest rate and promising it was backed by the federal government...without ever asking the government if that was true.
https://www.finra.org/sites/default/files/2019-12/robinhood-...
Uber.
Medical Software / Device startups.
Energy startups.
The list is too long. A basic search will yield you bountiful results.
Many AirBnB listings were violating laws from the very start. The platform didn't invent a new type of violation, it just made them a lot more common.
https://www.wired.com/story/inside-airbnbs-guerrilla-war-aga...
Americans are always baffled when they come here and start getting away from AirBnB.
There is admittedly a difference in the stakes and severity of enforcement in different verticals; but it's more than possible to comply. In fact, zealous compliance can actually get regulations rewritten and unmask systemic fraud/non-compliance in established actors if you do it right. Everyone should be meeting the same goals, but if you have one company struggling to honestly do so, it's a sign to look into tge mechanisms other actors have in place and whether they actually do what is on the tin. EPA learned that indirectly the hard way with Dieselgate.
Like gun control, bad actors don't care about your laws. The only people who are regulated are the honest ones, and the amount of regulation can put them out of business, or even dissuade them from being has honest as they'd like.
If RH lied about how they're compensated, then they are certainly guilty, but the harm to consumers is just the tip of the iceberg. Consider how much RH has harmed all the honest financial advisors who had to compete with a "free" service that hides their cost to consumers.
If I had lied to one client about how I was compensated, bye bye license.
Because by adding a flat startup cost to an industry you make it impenetrable to upstarts. Then you can use a venture-funded company to get inside the moat. But once there are a few inside, the next person investigating will realize that if they also enter the moat everyone will be commodified. They will lose their money too.
They'll have to compete and like Thiel says in Zero to One, you don't want competition.
Regulation is good for protecting your business and for helping big companies survive upstart disruptors.
What happened to you is by design.
Oh, don't worry. Robinhood agreed to sign a piece of paper agreeing that it wouldn't break the law any more.
And just to be clear, this isn't the first time that Robinhood has blatently broken the existing laws and regulation.
The "infinite money" "glitch" is a situation which is straight-up codified to be not allowed (for obvious reasons). They were either incompetent or negligent.
They attempted to release a "bank account" product and claimed it would be covered by insurance which it would not be. Again, either incompetence, or negligence.
Sooooooo the fine is nearly 2x the cost to consumers due to malfeasance. That should cover your concern here.
So Robinhood took money from its customers to this extent: all the cash as if its customers were paying commissions, and also $34M, and for that they're being fined $65M, which will probably be negotiated down to $2M or something like that.
For example, if a bank starts giving out 0% interest 100 year mortgages (with some fine print that gives them some obscure revenue source to make it possible for them to make such an appealing offer) the bank should still get in trouble in my opinion if the consumer isn't informed about how they're getting such an amazing deal, because you're removing the consumer's ability to make an informed decision.
My own comment wasn't a plea for government to interfere, btw. Just a cynical admission that active trading is bad for the vast majority of people.
(My own money is sitting in the most boring ETF I could find, but loaded with about 3x leverage. Given the regulatory requirements of the industry I work in, I wouldn't be allowed to trade actively anyway, but I don't feel like I'm missing out.)
Obviously it's more relative to their revenues but it still seems like peanuts.
[0] https://www.businessofapps.com/data/robinhood-statistics/