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With a Record Fine Behind It and an IPO Ahead, Will Robinhood Change Its Ways?

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What You Need to Know

  • The $70 million penalty FINRA imposed on Robinhood was a joke, Buckingham's Jeffrey Levine and Ezra Group's Craig Iskowitz say.
  • Robinhood filed its long-awaited IPO on Thursday, one day after being fined by FINRA.
  • A criminal probe of Robinhood seems possible, Max Schatzow, a partner at New York Law firm Stark & Stark, says.

There was a decidedly mixed initial reaction from the financial services industry to the $70 million penalty that the Financial Industry Regulatory Authority imposed on Robinhood Wednesday for a variety of securities violations.

Meanwhile, Robinhood filed for its long-anticipated initial public offering with the Securities and Exchange Commission on Thursday, disclosing that, as of March 31, it had 18 million funded accounts on its platform.

Also disclosed was that it had 17.7 million monthly active users, $81 billion of assets under custody, $11.6 billion in cryptocurrency assets under custody, and that it generated net income of $7.45 million on revenue of $959 million in 2020, compared with a loss of $107 million on $278 million in 2019.

FINRA fined Robinhood $57 million and ordered it to pay about $12.6 million in restitution, plus interest, to what FINRA said were “thousands of harmed customers.”

While some called it a good start, others saw it as nothing more than a slap on the wrist for Robinhood.

“The Robinhood fine is an absolute joke,” Jeffrey Levine, chief planning officer at Buckingham Wealth Partners, tweeted Wednesday. “$70MM isn’t nothing, but relative to what they made/are making” it seems that “what FINRA is saying with that fine is ‘Make your claims ridiculous enough so you dupe enough consumers to ‘buy in’ so that when we fine you, it’s still worth it’,” he added.

However, based on how many complaints and regulatory actions that Robinhood has faced in recent months, Levine said: “I think they’re going to have to do something only because, at some point, you start to go down a path where you can put your business in danger just from an operational perspective. But they’ll do something else. This is par for the course for a lot of these much larger entities that have resources” like Robinhood has.

“If that was a solo advisor or a small advisory firm, they would be excommunicated,” he said with a laugh, adding: “They’d have, at minimum, deficiency letters up the wazoo. They’d probably be fined out of existence or suspended or something like that.”

Levine compared it to the multimillion-dollar fines that big banks have received that are nowhere near the profits they make. “If these fines were really painful enough, businesses wouldn’t” commit these violations anymore, he said. But large companies are still “able to push the envelope because if they get their hand caught in the cookie jar, it’s just not a big enough deterrent.”

The accounting and tax expert acknowledged that Robinhood had taken certain steps to come into compliance by, for example, changing the language on its website. But “at the end of the day, they’re going to try and make money from order flow,” he said. “It’s in their best interest to disclose only as much as they have to because I think if a lot of people really understood Robinhood’s business model, they would be less apt to invest with them.”

In its IPO filing, Robinhood says most of its revenue comes from payment for order flow and warns that “reduced spreads in securities pricing, reduced levels of trading activity generally, changes in our business relationships with market makers and any new regulation of, or any bans on, PFOF and similar practices may result in reduced profitability, increased compliance costs and expanded potential for negative publicity.”

Also criticizing FINRA’s sanctions on Thursday was Craig Iskowitz, founder and CEO of Ezra Group, who tweeted: “it’s time to end the moronic practice of letting firms pay fines without admitting they did something wrong!”

This was “just another example of Robinhood’s sordid history of incompetence when it comes to internal governance and compliance controls,” Iskowitz told ThinkAdvisor by email on Thursday. “The average age of Robinhood’s customers is 31, which means they are catering to a demographic that has the least amount of experience in the markets. Yet they have been allowed to operate as though it’s the Wild, Wild West and the sheriff is passed out drunk in the jailhouse.”

Iskowitz agreed with Levine, calling the $70 million penalty “for a company valued at $40 BILLION… a joke,” adding: “If FINRA really wanted to deter future bad behavior, then the fine should have been large enough to have a material impact on the firm.

“For a financial services company that FINRA claims inflicted ‘widespread and significant harm’ on their clients, as stated in the settlement, then the fine should have been $1 BILLION or more. Defending it as ‘the largest fine on record’ only demonstrates how weak FINRA’s enforcement actions have been up to this point,” the wealthtech expert explained.

A More Measured Response

“I think it’s a start,” Tim Welsh, founder and president of Nexus Strategy, said of the FINRA penalty.

“While on the surface it is a big number, in the scheme of things, this won’t impact Robinhood financially at all,” Welsh told ThinkAdvisor by email on Thursday.

“Hopefully, what it will do is open the floodgates for all of the class action lawsuits pending against Robinhood, which can make an impact,” he said, adding: “Robinhood has been playing fast and loose with their marketing and messaging when it comes to regulatory concerns, so having any enforcement with some teeth in it will hopefully rein them in.”

Offering a similar mixed take, Gavin Spitzner, president of Wealth Consulting Partners, told ThinkAdvisor by email: “Robinhood’s tagline may as well be ‘Move Fast and Break Things’ given some of the self-inflicted wounds they’ve encountered such as their 3% checking account fiasco, some best execution issues and now the penalty for their track record of misleading and false statements.”

He noted that “the primary focus of the latest issues are around options and margin trading without sufficient guardrails and investor education (which frankly others are likely guilty of as well).”

Parting ways with the others, he said: “Does a $70 million fine mean much to Robinhood? I think so. It should be a big enough wake-up call that they need to install more controls and safeguards into their processes. And we’ve seen them bring in more ‘grown ups’ to help on the marketing and compliance side in the past year.”

While Robinhood “should be applauded for bringing more people into the investing tent,” he added: “I hope they take their responsibility seriously and provide more guidance to help what are often novice investors make good, informed choices.”

FINRA’s Message

The “biggest message” that FINRA’s penalty “sends is that nothing is new,” according to Douglas Boneparth, a financial advisor and president of Bone Fide Wealth in New York. “Robinhood misled millions of customers and lost them millions of dollars. So they were fined. While it’s a record-breaking sum, it’s likely an amount that they will have little difficulty paying, especially with their IPO coming up,” he told ThinkAdvisor by email on Thursday.

“If Robinhood learns form this mistake and creates a better platform for its users, then” the amount of the penalty “went the distance,” he said. On the other hand, “if they treat this as getting off easy and continue to mislead or turn their back on their users, it wasn’t enough and further action might be necessary,” he added.

“I’d like to think that Robinhood will make good on its word to be a better platform, but it’s hard to feel confident when they continue to misstep or mislead,” according to Boneparth. “Their business model relies on trade volume and the more you self-regulate and educate the more you risk reducing that volume. At least in the short term, anyway.”

A Legal Take

For Max Schatzow, a partner at New York Law firm Stark & Stark, the $70 million penalty “seems like a drop in the bucket” for a company that raised $3.4 billion in February, he told ThinkAdvisor by email on Thursday.

“Does it cause them any pain? Does it hurt their CEO’s compensation package? Does it disincentivize bad behavior? Probably not,” he added. “But the reality is, settlements are compromises. They also have quite a bit of pending litigation in state and federal court and in arbitrations, so it will be interesting to see how those play out.”

There may also be enough, he said, in the FINRA letter of acceptance, waiver and consent to find separate violations that weren’t resolved in the SEC’s December 2020 settlement in which Robinhood was fined $65 million for misleading investors and best execution failures.

And a criminal probe of Robinhood is a “very real” possibility also, he said, pointing to the various consumer complaints and actions taken by state attorneys general and regulators. Sen. Elizabeth Warren is also probing Robinhood’s controversial trade restrictions during the frenzy in GameStop and other heavily shorted stocks earlier this year.

“I ultimately don’t believe it will result in criminal charges, but the possibility exists,” Schatzow added.

Image: Shutterstock


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