What's the deal with Robinhood and these new trading apps?
August 20, 2020 9:20 PM Subscribe
The market has been good lately, so there's a lot of retail investors throwing money around making money, and I get that Robinhood and the like are easy to trade with but what's the catch? They don't allow drip, sell off order flow and of course you have the 25k day trader limit, but if you're looking for just a momentum trade the no commission is attractive. Is there something I'm missing?
To be fair I haven't used Robinhood, just read through its literature. I don't know if I'd qualify or if I'd want it because I don't do momentum trades with listed firms usually, but I feel as if there's a "catch" to Robinhood I'm not getting. Most retail investors aren't looking for complex option contracts or offsetting their portfolio with bonds, etc. And the day trading limits will hit you quickly. But other then that what would cause these apps to fail? All I can think of is extreme vol. or something that would kill their fee-less transaction model and their "best execution" which as far as I can tell doesn't list the spread.
Since these companies are being bought up left and right I hope someone smarter than myself already thought of this, but after Enron (dating myself) and the first mortgage crisis, I'm skeptical of really anything when a bubble appears.
To be fair I haven't used Robinhood, just read through its literature. I don't know if I'd qualify or if I'd want it because I don't do momentum trades with listed firms usually, but I feel as if there's a "catch" to Robinhood I'm not getting. Most retail investors aren't looking for complex option contracts or offsetting their portfolio with bonds, etc. And the day trading limits will hit you quickly. But other then that what would cause these apps to fail? All I can think of is extreme vol. or something that would kill their fee-less transaction model and their "best execution" which as far as I can tell doesn't list the spread.
Since these companies are being bought up left and right I hope someone smarter than myself already thought of this, but after Enron (dating myself) and the first mortgage crisis, I'm skeptical of really anything when a bubble appears.
From a Forbes feature on Robinhood published two days ago: From its inception, Robinhood was designed to profit by selling its customers’ trading data to the very sharks on Wall Street who have spent decades—and made billions—outmaneuvering investors. In fact, an analysis reveals that the more risk Robinhood’s customers take in their hyperactive trading accounts, the more the Silicon Valley startup profits from the whales it sells their orders to. And while Robinhood’s successful recruitment of inexperienced young traders may have inadvertently minted a few new millionaires riding the debt-fueled bull market, it is also deluding an entire generation into believing that trading options successfully is as easy as leveling up on a video game....The problem is that Robinhood has sold the world a story of helping the little guy that is the opposite of its actual business model: selling the little guy to rich market operators with very sharp elbows.
The sharp-elbows thing may be overstated (or not). The piece includes a graphic breakdown of Robinshood's Q1 2020 revenue. A whopping 70% of its revenue came from "payment of order flow." Here's the caption: Robinhood's entire business is built on selling its customers’ orders to trading titans like Citadel Securities. At Schwab, so-called PFOF or “payment for order flow” only accounts for 3% of revenues. ETrade, 17%.
From Investopedia: Payment for order flow is the compensation and benefit a brokerage firm receives for directing orders to different parties for trade execution. The brokerage firm receives a small payment, usually a penny per share, as compensation for directing the order to different third parties.
posted by Bella Donna at 12:11 AM on August 21, 2020 [1 favorite]
The sharp-elbows thing may be overstated (or not). The piece includes a graphic breakdown of Robinshood's Q1 2020 revenue. A whopping 70% of its revenue came from "payment of order flow." Here's the caption: Robinhood's entire business is built on selling its customers’ orders to trading titans like Citadel Securities. At Schwab, so-called PFOF or “payment for order flow” only accounts for 3% of revenues. ETrade, 17%.
From Investopedia: Payment for order flow is the compensation and benefit a brokerage firm receives for directing orders to different parties for trade execution. The brokerage firm receives a small payment, usually a penny per share, as compensation for directing the order to different third parties.
posted by Bella Donna at 12:11 AM on August 21, 2020 [1 favorite]
Robinhood Has Lured Young Traders, Sometimes With Devastating Results, from the NYTimes a few weeks ago. This article makes an interesting observation.. Robinhood's revenue is almost entirely dependent on its users making many, many trades. So every aspect of the software is designed to encourage rapid trading.
posted by Nelson at 8:55 AM on August 21, 2020 [4 favorites]
Mr. Dobatse, now 32, said he had been charmed by Robinhood’s one-click trading, easy access to complex investment products, and features like falling confetti and emoji-filled phone notifications that made it feel like a game.Needless to say, this kind of trading is the exact opposite of profitable investing. Or responsible investing. The stock market is not a video game, and your money is not a valueless token to gamble with. There plenty of studies that show on average how badly ordinary people do day trading or otherwise rapidly trying to "play the market". Robinhood exists to encourage that self-sabotaging behavior and profit from it.
posted by Nelson at 8:55 AM on August 21, 2020 [4 favorites]
as I understand it their business is fundamentally not hugely different from any other retail broker. no commissions but they sell order flow, and make some money on margin loans. also my limited understanding is that "payment for order flow" isn't some hugely sinister thing. you could open a robinhood account and buy stocks and it would probably be fine.
the main difference is that their app is designed, Silicon Valley style, to maximize engagement. the interface is supposed to be fun and sort of hypnotic, rather than useful and informative. like at least when I took a look at it, their charts didn't have any units on the y axis! they are completely devoid of useful information, but give an exciting, dynamic sense of stocks going up and down.
they constantly try to pitch you on hot, popular stocks, "nudge" you to trade more, etc. It's tech industry growth hacking stuff applied to a retail broker. Not coincidentally these tactics were pioneered by the casino industry before they were adopted by tech companies.
posted by vogon_poet at 11:54 AM on August 21, 2020 [4 favorites]
the main difference is that their app is designed, Silicon Valley style, to maximize engagement. the interface is supposed to be fun and sort of hypnotic, rather than useful and informative. like at least when I took a look at it, their charts didn't have any units on the y axis! they are completely devoid of useful information, but give an exciting, dynamic sense of stocks going up and down.
they constantly try to pitch you on hot, popular stocks, "nudge" you to trade more, etc. It's tech industry growth hacking stuff applied to a retail broker. Not coincidentally these tactics were pioneered by the casino industry before they were adopted by tech companies.
posted by vogon_poet at 11:54 AM on August 21, 2020 [4 favorites]
i guess i'd summarize that by saying that the catch is it's kind of like walking into a casino hoping for some free drinks, cheap steaks, and a show. you can do it if you're disciplined but somehow a lot of people get sucked into gambling anyway.
posted by vogon_poet at 11:58 AM on August 21, 2020 [1 favorite]
posted by vogon_poet at 11:58 AM on August 21, 2020 [1 favorite]
Hi! Actual Robinhood user here. Since March, I started taking 1/2 the money that I would normally pay to take the train to my job and putting it into stocks. We're not talking a big time investment portfolio. I do have DRIP enabled. That feature came out not long after I signed up.
I like it because it was easy to setup and it's very easy for me to see where I'm at, how my stocks are doing, etc. The graphs are dynamic. As I run my finger along the graph the total at the top changes to correspond with the time of day/month/quarter/year, so I don't really need the y axis spelled out for me. I immediately turned off notifications and unsubscribed from their emails, and I have never been nudged to buy more or pitched hot stocks.
They do promote their 'gold' monthly subscription for extra research and the ability to invest on margin. But I'm a buy-and-hold person who bets with her head, not over it. In other words, their worst customer.
posted by kimberussell at 2:29 PM on August 21, 2020 [2 favorites]
I like it because it was easy to setup and it's very easy for me to see where I'm at, how my stocks are doing, etc. The graphs are dynamic. As I run my finger along the graph the total at the top changes to correspond with the time of day/month/quarter/year, so I don't really need the y axis spelled out for me. I immediately turned off notifications and unsubscribed from their emails, and I have never been nudged to buy more or pitched hot stocks.
They do promote their 'gold' monthly subscription for extra research and the ability to invest on margin. But I'm a buy-and-hold person who bets with her head, not over it. In other words, their worst customer.
posted by kimberussell at 2:29 PM on August 21, 2020 [2 favorites]
The market has been good lately, so there's a lot of retail investors throwing money around making money, and I get that Robinhood and the like are easy to trade with but what's the catch?
There may not be a catch. From the retail investor side, it's pretty nice: zero trading fees (well, they still charge a minor SEC fee), and will even float you an interest free loan against an incoming deposit. I think they have DRIP and they just rolled out fractional shares a few months ago.
If you want to know about how discount brokerages work, Patrick McKinzie, regular HN contributor, solotrepenuer, blogger, and hobbyist coronivirus analyst wrote up a blog post on how those brokerages work. TL;DR: most discount brokerages make money on cash deposits by paying below average interest rates. Since that is a function of Assets Under Management, all these broker apps are competing to get you to move your money to them. The Odd Lots podcast by Bloomberg also covered Robinhood recently. both also make the point that retail orders are less risky; the spread in public exchanges is higher because market makers -- the folks putting up most of the bid/ask limit orders -- must account for some amount of risk that the counterparty to the trade has better or newer information than they do. Retail order flows aren't expected to have that kind of risk, so that means they're willing to execute above what you can get on the public exchanges by a smidge. That ends up being handed over in part to the brokerage as payment for order flow, or to the customer as improved execution price.
So the federal reserve rate cuts kinda blew up the discount brokerage playbook -- the margins on cash between what you pay the customer/lender (0) and what you earn with it (market rate) just shrunk. And if your fintech company fucks up in some regulatory manner, you may need to fire sale your company to pay off the feds. Which Robinhood seems to do on a regular, inexplicable basis?
That said the way I use it is to just dump excess cash into VOO. No gold sub, no options trades. Like kimberussell says, I'm among their worst customers.
posted by pwnguin at 4:05 PM on August 24, 2020 [1 favorite]
There may not be a catch. From the retail investor side, it's pretty nice: zero trading fees (well, they still charge a minor SEC fee), and will even float you an interest free loan against an incoming deposit. I think they have DRIP and they just rolled out fractional shares a few months ago.
If you want to know about how discount brokerages work, Patrick McKinzie, regular HN contributor, solotrepenuer, blogger, and hobbyist coronivirus analyst wrote up a blog post on how those brokerages work. TL;DR: most discount brokerages make money on cash deposits by paying below average interest rates. Since that is a function of Assets Under Management, all these broker apps are competing to get you to move your money to them. The Odd Lots podcast by Bloomberg also covered Robinhood recently. both also make the point that retail orders are less risky; the spread in public exchanges is higher because market makers -- the folks putting up most of the bid/ask limit orders -- must account for some amount of risk that the counterparty to the trade has better or newer information than they do. Retail order flows aren't expected to have that kind of risk, so that means they're willing to execute above what you can get on the public exchanges by a smidge. That ends up being handed over in part to the brokerage as payment for order flow, or to the customer as improved execution price.
So the federal reserve rate cuts kinda blew up the discount brokerage playbook -- the margins on cash between what you pay the customer/lender (0) and what you earn with it (market rate) just shrunk. And if your fintech company fucks up in some regulatory manner, you may need to fire sale your company to pay off the feds. Which Robinhood seems to do on a regular, inexplicable basis?
That said the way I use it is to just dump excess cash into VOO. No gold sub, no options trades. Like kimberussell says, I'm among their worst customers.
posted by pwnguin at 4:05 PM on August 24, 2020 [1 favorite]
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On many days the app freezes at open for 10-15 minutes, and the company takes no responsibility for the massive losses traders can and do incur as a result. They also have particularly draconian rules for closing out certain types of Short options and spreads well before expiration automatically with no warning, which can again easily screw you over in any number of scenarios.
They really take advantage of kids drawn to the app for its fun slick interface, which I find so repulsive I can’t in good conscience use the platform anyway
In this day of commission free trading and low commission options trading, there is literally no reason not to use a real broker.
posted by shaademaan at 9:35 PM on August 20, 2020 [2 favorites]