If you do any investment searches online, you have probably noticed the “Two Top Robinhood Stocks to Buy in September,” or “Top 5 Penny Stocks on Robinhood to Watch for September”—or, well, you can find actual pages of listings of ‘top’ stock touts and tips from the popular trading app. Robinhood, with its free trading, now has 13 million users who are actively buying and selling, sometimes daily, an estimated $20 billion of personal assets. The site has been described as a large collection of amateur investors who are using their quarantine time to explore day trading.
There is some evidence that these traders are moving the markets, not necessarily because of their order flows, but because popular stocks on Robinhood are listed in the headlines. In addition, momentum algorithms at large brokerage firms amplify any small shifts in the popularity of individual stocks, so when smaller investors buy, and buy again, others follow the trend.
Most discount brokerage firms have now matched Robinhood’s $0 trading fee for stocks and ETFs. Robinhood receives almost half of its revenue from payment for order flow—that is, selling its trading business to whatever clearing firm is willing to pay the most. Regulators have fined the company more than $1 million for failing to ensure that its customers receive the best price for orders.
It matters who a company like Robinhood sells its trading data to. Companies like Virtu and Citadel can use this information to decide how to invest for their own accounts, essentially interposing their own trading interests between the retail customer and the order they have purchased. There is evidence that Robinhood exacts a higher price for its trading data than other, more conventional firms, because the company is willing to embrace that significant conflict on behalf of its investors.
Bigger picture, day trading by amateur investors—popular in the late 1990s—has seldom ended well. Back then, unsophisticated traders kept buying and buying until just about every professional was warning that the markets were becoming seriously uncoupled from their underlying valuations—right up until the so-called Tech Wreck if the early 2000s, when the markets plunged dramatically, wiping out the day traders and many others as well.
Today, with Robinhood’s unprecedented popularity, professionals are once again warning that the markets have become seriously uncoupled from their underlying valuations. Are we in for a repeat of history?
Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk and there can be no assurance that the future performance of any specific investment, investment strategy, or product made reference to directly or indirectly in this article will be profitable, equal any corresponding indicated historical performance level(s), or be suitable for your portfolio. Moreover, you should not assume that any information or any corresponding discussions serves as the receipt of, or as a substitute for, personalized investment advice from Leading Edge Financial Planning personnel. The opinions expressed are those of Leading Edge Financial Planning as of 10/16/2020 and are subject to change at any time due to the changes in market or economic conditions. This article was written by a guest author.