Wednesday, August 10, 2022

Robinhood’s attempt to ‘democratize finance’ collides with Wall Street reality

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Robinhood’s ambition to ‘democratize finance’ is set for one of its biggest tests after a week of chaotic trading that drove it to seek an urgent $ 1 billion injection and infuriated many of its clients the most faithful.

The uproar has exposed the competing priorities the popular trading app faces between satisfying its users and the realities of operating in the heavily regulated financial industry.

The battle between individual investors and Wall Street hedge funds, which peaked last Thursday, sent shock waves through Silicon Valley society, which has come to exemplify the new generation of organized groups of day traders with access to sophisticated tools.

Frantic trading of stocks such as GameStop and AMC took over the brokerage industry in the United States, causing a cascade of brakes on stocks and options that angered many individual investors who felt the platforms were limiting their success, and careful consideration of The main regulator of Wall Street.

Many brokers have been faced with a sudden surge in demands for liquidity from clearing houses – important institutions in the financial system that ensure that transactions are settled in an orderly fashion and prevent a firm’s inability to honor its commitments to threaten the broader securities market.

A tumultuous Thursday

The demands were particularly acute for Robinhood. Named after the legendary outlaw in English folklore, the California-based broker claimed to trace his ambitions to “democratize finance” back to the Occupy Wall Street movement in 2011.

Managing Director Vlad Tenev revealed Sunday night California time that the National Securities Clearing Corporation, a stock clearinghouse, had requested margin deposits of around $ 3 billion as of 3 a.m. Thursday. He described this amount as “an order of magnitude greater than it usually is.” The NSCC later reduced the request to $ 700 million, Mr. Tenev said on the Clubhouse social media app.

“I think the only thing that maybe isn’t clear to people is that Robinhood is a player in the financial system,” Tenev said. “We have to work with all these counterparts.”

The NSCC could not be reached immediately for comment outside of office hours in the United States, but said last week it was not commenting on the demands of individual members.

Ribbit Capital, one of Robinhood’s early investors, showed up on Thursday to lead a new round of convertible debt financing. Iconiq Capital, another existing investor, has joined Ribbit and the two companies have wired more than $ 500 million together to the company, people familiar with the financing said. Robinhood simultaneously withdrew more than $ 500 million on lines of credit from major banks, underlining the group’s sudden and significant need for liquidity.

A person close to the company said she had satisfied the clearinghouse’s demands before investors’ cash flowed into her account.

Vlad Tenev, Managing Director of Robinhood, said: ‘I think the one thing that maybe isn’t clear to people is that Robinhood is a player in the financial system’ © Alex Flynn / Bloomberg

At the end of the day on Thursday, Robinhood revealed that it had commitments from existing investors to inject more than $ 1 billion to strengthen the group’s balance sheet. Investors have the option of converting their investment in debt securities to equities at a valuation for the company of around $ 30 billion or a 30% reduction from a possible initial public offering price, according to lowest, said people familiar with fundraising.

The deal represented a relatively low-risk bet on Robinhood’s future, although it could prove costly for the company if it underestimated its target value during an IPO. Private investors recently valued Robinhood at $ 11.7 billion last year.

Robinhood said this investment was “a strong sign of investor confidence, which will help us continue to serve our customers better.”

‘You can only be disruptive up to a point’

Robinhood’s liquidity crunch and the deals that followed exemplify the difficult balancing act facing the company, which has come to fame for its promise to free individuals from commissions typically charged by established rivals.

“Robinhood has taken a ‘go fast and break things’ approach to financial services, but financial services is a highly regulated industry where you can’t break things,” said Brennan Hawken, analyst at UBS.

Robinhood’s decision last week to restrict trading in some popular stocks, without initially providing detailed information about what happened behind the scenes, sparked an avalanche of criticism from investors.

Many retail investors on r / WallStreetBets said they felt betrayed by Robinhood’s decision. Investors turned to the channel to coordinate the mass ‘reviews’, where users gave Robinhood one-star reviews in major app stores, as well as to promote new competitors in commission-free trading. , such as Public and WeBull.

Many retail investors on r / WallStreetBets have said they feel betrayed by Robinhood’s decision to curb trading in certain stocks © Tiffany Hagler-Geard / Bloomberg

The backlash was part of an email failure, analysts said, creating disruptive expectations that were undermined when Robinhood had to act like an established brokerage firm.

“We would be at least as worried about reputational damage as we would feel a short-term excitement about transaction volumes and advertising,” said James Anderson, director of Baillie Gifford’s Scottish Mortgage Investment Trust, and one early supporters of rapidly growing technology. companies such as Tesla and Amazon.

Larry Tabb, head of market structure at Bloomberg Intelligence, added: “You can only be disruptive up to a point, because at the end of the day you are one side of a trade.”

Mr Tenev admitted last week that the company had been caught off guard by the “lightning-fast” speed with which social media was spreading information and creating such a commercial shake.

Robinhood may find it difficult to maintain its outward identity as it is forced to play by the rules, say industry participants.

“In the late 90s, you couldn’t cast a stone without hiring a new online broker,” Tabb said. “What happened to these guys was that they finally realized that the market was bigger than the traders. . . They were all swallowed up. Now, they look like traditional financial conglomerates. “


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