Robinhood and Redditors: Who’s robbin’ who?

Excerpt:

Robinhood is a broker. It is a FINRA-regulated broker-dealer. It relies on a clearing house to clear its transactions. The clearing house it uses is the National Securities Clearing Corporation (NSCC), which is a subsidiary of the Depository Trust & Clearing Corporation (DTCC). Thus, Robinhood is a “member” of NSCC. The NSCC is a “designated financial market utility” as defined in the 2010 Dodd-Frank Act. Thus, it is “a financial market utility that the Council has designated as a systemically important.” (“The Council” is a regulatory body created by Dodd-Frank. Its ten voting members include the Treasury Secretary, the Fed chair, and the comptroller of the currency.) NSCC is a provider of “financial market infrastructure” (FMI). As such, it must publicly promulgate rules for the computation of the “Clearing Fund” every “member” must maintain with it. While the FMI is responsible for designing its own rules for determining the clearing fund, they are subject to approval or rejection by the regulatory authorities. In particular, the SEC may prohibit any changes NSCC wants to make in its formula for computing the clearing fund of each member. The Bank for International Settlements (BIS) has promulgated a set of “principles” that member states should adhere to in regulating payment and settlement systems. These include, “An FMI should maintain sufficient financial resources to cover its credit exposure to each participant fully with a high degree of confidence.” 

Thus, the regulatory authorities require clearing houses to require members to keep a risk-adjusted balance with them as a guard against credit risk. In the case of Robinhood, the short squeeze drove this formulaic value up sharply. Robinhood didn’t really have much of a choice about how to respond. It had to both pony up more money for the clearing fund and act to hold off (to the extent possible) further increases in it. Robinhood had to borrow a lot of money to maintain its clearing fund.

Author(s): Roger Koppl

Publication Date: 2 February 2021

Publication Site: EconLib

Twitter thread on Robinhood halting GME trading

Link: https://threadreaderapp.com/thread/1354952686165225478.html

Excerpt:

Robinhood (RH) is a broker. They don’t execute stock orders themselves. They sign up customers, route their orders to executing brokers, and keep track of who owns what. RH is also its own clearing broker, so they directly settle and custody their clients’ securities. 

Yes, RH is paid by Citadel to handle executing some of its order flow. This isn’t as nefarious as it sounds – Citadel Equity Securities is paying to execute retail orders because they aren’t pernicious (like having 500x the size behind them). 

…..

RH offered to open up stock market investing more broadly. They succeeded, clearly. But the regulations didn’t change – there are still pro-Wall St, pro-incumbent rules and capital requirements. It’s one of the most highly regulated industries in our nation. 

So @AOC is right to ask how it can be that Robinhood stopped its clients from buying certain securities. And what she’ll find is that the reason is that Dodd-Frank requires brokers like RH to post collateral to cover their clients’ trading risk pre-settlement. 

Author(s): Silent Cal

Publication Date: 28 January 2021

Publication Site: Twitter