Since a now notorious group of Redditors took credit for sending Gamestop’s stock (G.M.E.) soaring, there has been a spike in both popularity and criticism of free-to-use trading platforms such as Robinhood and WeBull, which attract users with no-fee trading. As Wall Street investors suffered massive losses, Robinhood restricted trading unstable stocks such as G.M.E. on January 28––the day after it reached an all-time high.
This restriction seemed suspicious to users, appearing as if Robinhood’s new limitations on users were intended to cater to the interests of distressed hedge funds, betraying their platform’s mission statement of aiding small investors. However, the sharp increase of users and trades in the Robinhood app ultimately demanded more of the company than they could afford, forcing them to place new limitations on their users. The increase in new users, combined with their insufficient understanding of Robinhood’s limitations, fueled unjustified outrage towards brokers like Robinhood.
Ever since the pandemic struck, many notable hedge funds and Wall Street investors believed that Gamestop’s stock would lose value and shorted it, betting on its depreciation. Redditors then drove up the price of G.M.E., causing those who shorted the stock to buy back the stock they borrowed in order to prevent further losses. This sent the price up even further, creating a loop called a “short squeeze,” and causing the price of G.M.E. to increase by 144 percent.
Robinhood ultimately restricted trading of G.M.E. leading to public suspicion and even allegations of corruption from New York Representative Alexandria Ocasio-Cortez and Texas Senator Ted Cruz.
I personally don’t believe that there is corruption. The influx of new users left Robinhood with no other financially feasible choice other than to place these restrictions. It was not that Robinhood was bending to the whims of Wall Street investors while cheating its users, but because Robinhood needed billions to cover potential losses.
When you buy a stock from a broker like Robinhood, the app still has to place the order through third parties, which takes approximately two days. When a stock is at higher risk of massively increasing or falling, the fees for these third-party services increase. When the fees increased for G.M.E. as it became more volatile, Robinhood couldn’t afford to pay these fees to process the number of orders it received.
Robinhood is raising an additional $1 billion, which further illustrates that this is a matter of insufficient funds, not corruption. Other brokers that did not shut down trading simply had more money on hand and did not face a massive influx of new users trying to trade G.M.E., so they were able to afford to keep trading. This funding issue applies to every broker that shut down trading of G.M.E., so none of them should not be considered at fault for making unavoidable choices.
Some argue that Robinhood was pressured to stop trading by investors and bankers because of their plans to go public. While I’m unsure of the merit of this claim about Robinhood’s specific circumstances, other introductory brokers made similar decisions, based upon the same financial challenges. Another argument that the investment restrictions involved corruption is that manipulation occurred in the third parties that the brokers use, as they could’ve raised their fees either prematurely or excessively to halt trading. The numbers, however, don’t back up this theory: when publicly available data on the operations of the third parties involved is considered, there is clearly insufficient evidence to support these claims.
When investing and using free brokerages, it is important to know the limitations of the platform you’re trading on, and not just jump in unaware of the risks as so many did with the Gamestop short squeeze. While free-to-use brokerages shut down trading, other brokerages did not. If you are investing a lot of money and could face large losses if something like this happened again, you probably shouldn’t be on Robinhood and should move to another platform. While those other platforms aren’t entirely free, for example, with a $0.65 fee on options trading at Fidelity Investments, the choice seems clear when comparing the costs and benefits between brokers like Fidelity and Robinhood. Many traders, unfortunately, learned about these downsides of free investing platforms the hard way, and Robinhood is not to blame for what happened.
Disagree? Questions? Let me know by emailing me at firstname.lastname@example.org.