Happy Friday!
It looks like Robinhood and other Brokers followed the Big Tech Cartel playbook by restricting buys in meme stocks yesterday. Bold move.
I’m old enough to remember seeing short sales banned but I don’t think I’ve ever seen this before. I had a few advisors ask me if this is even legal, and my take is probably. They will even use Big Tech’s legal defense, which consists of two intricate steps:
- See our Terms and Conditions
- Go pound sand
But just because they can do it doesn’t make it a good idea. I don’t think Robinhood needs more attention from regulators and must assume this will force management to add an awkward slide to its pitchbook later this year when they try to IPO. So then why did they do it?
Maybe to avoid blowing themselves up? The directive appears to have come from the clearing houses, which act as a backup for brokers in the plumbing of the financial system. Brokers like Robinhood stand between the client and the exchange to facilitate transactions. When volatility like this ensues, which is extremely rare, brokers have to manage through it all and are liable for mistakes.
For example, if some Millennial bought GME via his Robinhood app, Robinhood takes that buy order, combines it with other buy orders and routes it to the exchange. There, the cash is delivered to the seller and stock to Robinhood.
Robinhood then takes all those shares back to its client accounts and divvies them up amongst all the Millennials that submitted buys. After the close, Robinhood reconciles the buys and sells to make sure they balance out on their reconciliation reports. And if they overbought or oversold, Robinhood is on the hook.
This is why brokers will put in restrictions to slow or even halt trading in a stock during times of insane volatility. Mistakes are on them and a bad one could blow them up. In this case, DTCC required Robinhood and others to post more collateral to protect themselves from any risk of blowing up, and Robinhood didn’t have it readily available. Hence they and other brokers simply stopped allowing buy orders.
But that explanation is weak and frankly boring. So, let’s go to the bottom of the barrel and find a conspiracy theory that sounds way cooler.
There’s a common saying in internet media these days: “If there are no costs for a product you use, then you are no longer the customer – you just became the product.”
Robinhood offers free trades because they then take their order flow and sell it to places like Citadel (I explained this process in a weekly that I wrote in May 2020 attached to this email). In fact, Citadel is around 60% of Robinhood’s business, so making Citadel happy is of utmost importance to Robinhood’s future as a going concern.
Here’s another fun fact about Citadel… They just bailed out Melvin Capital, which is/was an elite hedge fund that had performed phenomenally well, until a week ago. They were short GameStop, and when this trade went sideways on them, they needed a lifeline. Citadel was an initial investor in Melvin, so they put in more capital to keep it solvent.
One may find it interesting that Melvin takes an infusion from the number one customer of Robinhood. One may find that interesting because Citadel has an incentive to keep Melvin alive, which means Citadel indirectly doesn’t want GME to go up any higher. Because if the stock goes higher, Melvin’s short position becomes a bigger risk to the fund.
One may also find this interesting because as the number one customer of Robinhood, if Citadel tells Robinhood to jump, it’s in Robinhood’s best interest to ask “how high?” Since it is estimated that over half of GME shares sit in Robinhood trading accounts, Citadel would benefit if Robinhood allowed customers to sell GME but to not buy GME.
This is a top tier conspiracy theory, but there is a question of timing. Melvin disclosed that they covered their short position on Wednesday. Robinhood didn’t restrict buys on GME until Thursday.
Who knows what’s going on, but I have to say that it’s rare to experience this much pleasure in one week. I don’t think it’s been this enjoyable since WeWork’s IPO blew up.
Oh that reminds me… The word on the street is that WeWork is now going to try again, but this time via a SPAC!!! Only in 2021 can something this laughable happen and barely make news. What a time to be working in this business.
Lastly, check out the inside of this rock that looks like the cookie monster. It’s impossible to see this and (1) not laugh, and (2) think it looks like anything other than the cookie monster.
Enjoy the weekend…
Mike on Markets 