This past year, millions of new investors in their twenties and thirties started investing in the stock market. Many of them created accounts on the investing platform Robinhood. If you’re below age forty, there’s a good chance you’ve never heard of Robinhood. Allow me to elaborate.
What is Robinhood?
Back in 2013, Stanford graduates Baiju Bhatt and Vladimir Tenev created the now infamous online stockbroker company Robinhood. When Robinhood started, the rest of the retail brokerage world put up barriers that made it tougher for younger/less wealthy clients to get started in the investing world. Throughout the online brokerage sphere, account balance minimums and sizable per-trade commissions were commonplace features that didn’t favor investors.
Robinhood changed the game. Zero-commission trades, fractional shares, and an easy-to-use app democratized investing. Robinhood’s favorable features and sleek design attracted numerous 1st time stock traders in their 20s and 30s. Robinhood has gotten so popular that a quick Google search of “Robinhood” nets you 87 million search results. Similarly, YouTube hosts tons of Robinhood-related videos such as “how to make a thousand dollars a week” and “how to trade options” on Robinhood.
Even better, Robinhood’s advantages pressured other brokerage firms to go to zero-commission trades. By 2019, discount brokerage giants Fidelity, TD Ameritrade, Charles Schwab, and E-Trade all got rid of their commission fees due to competition from Robinhood.
So, Robinhood sounds pretty neat, right? Here’s an important word of wisdom: if something sounds too good to be true, then it probably is. This logic applies to Robinhood. For all the good stuff that Robinhood has done, there have been plenty of negatives.
The Bad
Where do I begin? Let’s start with options. For without a finance background, an option is a contract that gives you the right to buy an amount of stocks at a certain price in the future. If you think a stock is going down, you buy a put option. If you think a stock price will increase, you would buy a call option. Options trading is a lot more complicated than this brief explanation, but you now have the general idea. Essentially, options are a form of betting on a stock’s price movements in a specified time frame. With options, you do not own the actual stock. You just have the right—but not the obligation—to purchase shares in the future. I am not a financial advisor, but I would highly recommend that no one trade options—unless you are a professional investor.
Suffice to say, options trading is highly complex and risky. Nevertheless, Robinhood encourages novice investors to take part in this sector of the financial realm. Research firm Alphacution found that Robinhood users sold 88 times more risky options than Charles Schwab clients on a dollar-average basis. That’s pretty unbelievable.
Here’s a notable example of Robinhood trading gone wrong. In June 2020, a twenty-year old college student committed suicide when he saw his Robinhood account posted a negative balance of $730,000. Although his negative balance was likely temporary, this tragic event could have been avoided if Robinhood didn’t allow rookie traders to take highly leveraged positions by trading options.
Another negative aspect of Robinhood is the “get rich quick” culture that the app tacitly promotes among its userbase. Robinhood users typically do not view investing as a durable means to increasing one’s wealth. With the recent volatility in the stock market this past year, many Robinhood traders have experienced massive returns in companies like Apple and Tesla. Instead of seeing investing as a long-term activity, they only look for the short-term gains.
Unfortunately, Robinhood has become the Gen-Z equivalent of gambling. Day trading and options trading are the means by which Robinhood users indulge in risky financial behavior.
Clearly, Robinhood has plenty of positive and negative aspects to the company. If you are interested in getting into the investing world, I would advise you to steer clear of Robinhood. Personally, I opened my first investment account on Fidelity.
Part of becoming a responsible adult is taking care of one’s finances. Investing should turn into a major part of that equation. Anyways, I hope that you learned more about this trend in the investment world.
Wall Street Journal Video on Robinhood:
A Link