Founded in 2013, investment app Robinhood breezed onto the scene and seriously disrupted the game by offering commission-free stock trades. Although today you can trade stocks without a fee on multiple platforms, Robinhood’s debut was a game changer.
Robinhood’s premise was democratizing investing and bringing the wealth of the stock market to the masses. As of August 17, 2020, Robinhood is valued at $11.2 billion, and trumps competitors on several important metrics — though not always in a good way.
Robinhood Stock Investing Concerns
In contrast with nine other retail brokerage firms, Robinhood clients trade the riskiest products at the fastest pace. During the first quarter of 2020, Robinhood users traded nine times as many shares as E-Trade customers and 40 times the number of shares traded by Schwab customers, as measured by share per dollar in the average client’s account.
In general, trading riskier assets doesn’t necessarily translate to earning higher returns.
One way that the “free” Robinhood apps makes money is through order flow and selling customer orders.
Their earnings from this activity raises the question as to whether Robinhood investors are receiving the most favorable prices on their trades.
Per dollar, on average, Robinhood receives $18,955 from high-frequency trading firms by selling customer orders. This far outweighs TD Ameritrade’s $1,881, E-Trade’s $1,326 and Charles Schwab’s $195.
Options trading is for advanced investors. It is a sophisticated investment strategy and requires a steep learning curve. And Robinhood may make trading options too accessible for inexperienced investors.
Robinhood claims 25,840 options contracts traded for every dollar in the average customer’s account. In contrast with TD Ameritrade’s 2,188, E-Trade’s 1,844, and Schwab’s 292.
Is Robinhood a Good Place to Trade Stocks?
Trading stocks at Robinhood is quick and easy, maybe too much so.
Robinhood has gamified trading, where zero commission trades encourage more transactions. The easy-to-use app lists trendy stocks and encourages buying and selling with a flashy “trade” button that pops onto the screen.
At most firms, options and margin trading require guardrails to ensure that inexperienced and less financially secure individuals don’t get in over their heads.
Robinhood doesn’t promote in-depth stock research, rather a “wisdom of the crowd” type of approach. In fact, there is a large body of financial research substantiating the inverse relationship between frequent trading and lower returns.
Several popular Robinhood stocks are heading for disaster. For example, in May, Robinhood stock ownership in Hertz Global (NYSE:HTZ) rental car company exploded, while the company filed for Chapter 11.
Then there’s Alex Kearns, a 20-year-old college student from Nebraska who killed himself after mistakenly believing his Robinhood balance had dropped to negative $730,000.
The average Robinhood customer is 31 and financially inexperienced. The Robinhood app makes it easy to get into investing trouble. But despite its imperfections, trading stocks via the Robinhood app has its advantages.
How to Trade Stocks With Robinhood — the Right Way
Of course, no platform can force an investor to trade. Robinhood is simply a platform for buying and selling financial assets. Yet, it is accused of making trading too easy for inexperienced investors.
Yet, like any other investment platform, Robinhood can be used for sensible investing, after a bit of research and education. The Robinhood “Learn” vertical has many helpful articles to educate an investor.
Recent educational topics include:
- “What is the Stock Market?”
- “Picking an Investment: How to Approach analyzing a Stock”
- “What is a P/E Ratio?”
- “What is the Sharpe Ratio?”
Robinhood has countless educational articles that sensible investors can use to learn about the economy and the investment markets. Studying financial information before investing will lead to better long term returns.
Robinhood App Best Practices
Here is how to use Robinhood or other investment platforms to invest for future gains.
Understand stock market history and market behavior. Individual stocks and market indexes go up and down and are unpredictable in the short run. In the long term, financial market returns have trended upwards.
Don’t invest for quick profits unless you are an experienced stock market trader.
Only invest money in the stock market that you can afford to leave invested for five to seven years.
Don’t invest more than you can afford to lose.
Research recommended Robinhood stock picks before pushing the “trade” button.
New and inexperienced investors should stay away from day-trading and options trading or only deploy a small amount of money. One might consider this money “learning capital” to practice with.
Robinhood customers must be comfortable with investing in an individual brokerage account as this is the only type of account available at present.
Margin is only for expert investors.
Understand the risks of crypto investing — especially on the Robinhood platform. In fact, cryptocurrency investing is actually speculating. There are better platforms than Robinhood for dabbling in cryptocurrency.
Finally, you control the buy and sell buttons, not the app. Make the investment app work for you, not the other way around. Don’t get swayed by a platform and go into the investment markets with a cool, analytical attitude.
Disclosure: All data sourced from Alphacution Research Conservatory – graphs from NYTimes