An investment app that sold itself as “democratising the stock market” is at the centre of a Wall Street fiasco because it suddenly stopped stock traders from buying certain stocks.
Robinhood, the app in question, stated in a blog post that it temporarily limited individual traders’ ability to trade stocks from certain companies, most notably GameStop, due to market volatility.
“In light of recent volatility, we restricted transactions for certain securities to position closing only,” Robinhood said. They also raised the margin requirements for certain securities to manage the influx of stock buyers.
A more recent blog post, however, stated that buyers will be able to trade stocks again from the previously-blocked companies from 29 January 2021.
“To be clear, this was a risk-management decision, and was not made on the direction of the market makers we route to,” Robinhood added.
Robinhood also espoused that they stand with their customers and that democratising finance has always been their guiding star since their foundation.
However, American lawmakers thought differently, along with Reddit users from the r/WallStreetBets (WSB) subreddit.
HOW IT ALL HAPPENED
Robinhood’s recent infamy started with a bet made in December 2020 against GameStop – a retailing company known for selling video games.
The two notable hedge-fund managers, Steve Cohen and Dan Sundheim, bet against GameStop through a massive short-selling of stock due to “what they see as the firm’s business challenges,” the Wall Street Journal reported. For the uninitiated, short-selling is the act of making a profit off a borrowed depreciating stock when sold back to the stock’s owner.
GameStop was not doing well even before the pandemic. Buying and downloading games online were becoming the norm in the video game world thanks to fast internet downloads, according to TIME. When governments made people stay in their homes due to the COVID-19 pandemic, sales for physical copies of video games plunged further down, with only borrowed games keeping them afloat.
However, members of the r/WallStreetBets, a Reddit page of more than six million members saw the short-selling against GameStop and thought of combating the hedge-funds through buying GameStop stocks as a joke at first.
GameStop was not new in the subreddit. A post by user u/delaneydi on 25 March 2019 argued that GameStop’s stocks were underpriced by the market. Then, on 9 October 2020, u/DeepFuckingValue posted his financial gains from buying GME stocks – GME is the stock ticker symbol Wall Street gave to GameStop.
The spark that lit the fuse to war came from a tweet by Andrew Left, an activist short-seller, that he’d share five reasons why GameStop’s stock will plummet down to US$20 in a live stream, Wired reported. GME stocks were at US$41 at the time Andrew tweeted.
Andrew stated in his live stream, now made private, that GameStop is “a failing, mall-based retailer” and its value is “not based on any fundamentals.” According to Andrew, this just goes to show the natural state of the market at the time.
Whatever Andrew said in his live stream triggered something in Redditors from r/WallStreetBets. Calls to buy stocks flooded WSB’s Discord server on 29 January 2021. They were able to make GME’s stocks reach US$60 from the previous price of US$20 the week before with some participation from fellow Redditors.
The rise gave Redditors the motivational push they need to keep on buying GME stocks, urging fellow members of the subreddit to “hold” – the act of not selling their shares. Bawsel, a WSB moderator, mentioned to Wired that it was the first time in years members were making money.
Bawsel then came to say that it started as a meme, something to make fun of. But when it was discovered there was money to be had, everyone came joining the bandwagon. “They’re no longer commenting on the story,” Bawsel said. “They’re wanting to become the story and have effectively done that.”
HOW TO NOT LIVE UP TO YOUR NAME
WSB’s members are called individual investors in the financial world, as they are not a part of a company. As individual investors, they need something to buy stocks with. This is where Robinhood comes in.
Many members of WSB use Robinhood to buy GME stocks as part of their campaign to squeeze the short-sellers out. However, due to the volatility of the market, Robinhood decided to halt trading of GME stocks.
Robinhood emailed its customers to explain the situation, according to Fortune. The company said that the volatility of the stock market due to the rush into GME stocks stretched the company’ balance sheet, necessitating the sudden halt.
“We had to take steps to limit buying in those volatile stocks to ensure we could comfortably meet our deposit obligations,” Robinhood stated in the email. “We didn’t want to stop people from buying stocks and we certainly weren’t trying to help hedge funds.”
However, it was discovered that a number of hedge funds are connected with Robinhood. Robinhood makes a profit despite their commission-free policy by letting investors such as Citadel Securities, a multinational hedge fund, see what their users are doing, The Verge reported.
Fox mentioned in an article that there have been reports that major hedge funds including Citadel Securities have pressured Robinhood to halt GME stock trading.
This angered Robinhood users who then called out Robinhood’s hypocrisy. However, Robinhood added more fuel to the fire when its CEO, Vlad Tenev, said that he made the “correct” decision in restricting purchases of GME stock, according to a Forbes report.
It has also been discovered that Robinhood sold GME stocks from those who are holding on to them without their consent. The Verge reported that Robinhood did not sell GME stocks without the stockholders’ consent. This contradicts the statements of twelve people who reported that Robinhood sold their GME stocks without their permission.
Currently, Robinhood is facing a class-action lawsuit in the US for blocking GME stock and is the subject of condemnation among WSB Redditors and notable personalities like Elon Musk, who expressed his frustrations with Robinhood through various tweets.
CBS also reported that the American Congress plans to investigate Robinhood for blocking individual investors buying GME stocks. CBS then added that House and Senate Committee leaders responsible for financial industry oversight are planning to hold hearings to look into Robinhood’s controversial decision.
Democratic Senator Elizabeth Warren demanded answers from Vlad Tenev due to a potential conflict of interest due to his company’s connection to hedge funds, CNN reported.
Can Something Like Robinhood be Beneficial for Singaporeans?
Despite Robinhood’s controversial situation, an app that allows individual investors to participate in the stock market could be useful with the right knowledge.
David Kuo, the co-founder of The Smart Investor, agreed that an app like Robinhood can be beneficial to Singaporeans.
In an interview with Tech360.tv, David Kuo said that “providing the market with cheaper ways to invest is always beneficial for investors.” However, he pointed out that people could possibly trade more than they should due to the app’s commission-free nature.
David Kuo also said that trading apps like Robinhood have made trading shares easy, accessible and “not prohibitively expensive.” He also thought of Robinhood’s mission of providing everyone with access to the financial market as a laudable one.
“Investing is about reaping the benefits of wonderful businesses as it grows and rewards its investors over time,” David Kuo said.
David Kuo also pointed out that the best time to invest is always “now” regardless of current circumstances. “Not all businesses have been impacted similarly by COVID-19,” David Kuo added. “It is always a mistake to equate the performance of an economy with the businesses that operate within that economy. The key is always to focus on the fundamentals of the company.”
A Democratised Stock Market
When asked about the pros and cons of democratising the stock market through commission-free apps like Robinhood, David Kuo answered that properly-regulated apps could put pressure on traditional brokers to cut their commissions, thus bringing down the cost of buying or selling shares.
However, the downside of this move is that it could encourage people who are not always fully aware of the risks of investing to follow the hype tipsters like Redditors from WSB create.
“Always do your own research,” David Kuo advised. “Never invest with money that you will need within the next five years.”
Written by John Paul Joaquin