Massachusetts regulators file a complaint against Robinhood

The Wall Street Journal first reported Wednesday early on the state’s intention to file the complaint.

A Robinhood spokeswoman said before the complaint was filed that the company has and will continue to work closely with all regulators.

“Robinhood has opened up financial markets for a new generation of people who were previously excluded,” he said. “We are committed to operating with integrity, transparency and complying with all applicable laws and regulations.”

The complaint from the office of William Galvin, the Commonwealth Secretary of Massachusetts, marks the last round of examination the popular brokerage has had in its short history. Since it was founded less than a decade ago, Robinhood has exploded in popularity, accumulating more than 13 million customer accounts. Traders tend to be drawn to the easy-to-use platform that allows customers to trade stocks and stocks for free.

But its explosive growth in recent years has also made it the target of regulators’ probes. Last year, Robinhood agreed to pay $ 1.25 million to resolve claims from the Financial Industry Regulatory Authority, which alleged that the company failed to take steps to ensure it got the best prices for customer orders. The company agreed to settle down without admitting or denying any guilt.

The Massachusetts allegations focus on the tactics the company uses to keep customers engaged, claiming that it “encourages customers to use the platform constantly” through what it calls “gamification.” The complaint alleges that, through the promise of free securities, automatic notifications and its signature digital confetti, Robinhood encourages “a continuous and repeated commitment to its implementation.” State regulators say Robinhood allowed an inexperienced client to invest in more than 12,700 transactions in just over six months.

In another example, regulators point to Robinhood launching a new cash management feature, accompanied by a waiting list for customers to sign up for quick access. The complaint says customers had a chance to improve their position on the waiting list by “touching” a fake credit card on the app up to 1,000 times a day.

He also alleges that Robinhood violated its own rules regarding options trading by approving clients to participate in the practice without having the necessary qualifications. The options allow traders to pay a relatively small amount to get a large return if their bets turn out to be correct. In turn, however, losses can be added up if traders ’bets are incorrect.

Like many brokerages, Robinhood makes money through a practice called payroll, which sends customer orders to commercial companies in exchange for cash payments. By encouraging inexperienced investors to run trades continuously, “Robinhood prioritized its revenue over the best interest of its clients,” the complaint says.

It also addresses the recent disruptions experienced by Robinhood, which kept traders from accessing their accounts at different points this year. “Robinhood was unable to adequately protect its customers and assets” by failing to implement policies and procedures reasonably designed to prevent and respond to disruptions, ”the state said.

A Robinhood spokesman said the platform has previously worked “diligently to harden our infrastructure, improve reliability and increase capacity” and continues to invest to make sure its systems support customers on busy trading days. The company has also said earlier that it continues to increase educational tools for customers.

In an interview, Galvin said his office filed the lawsuit to protect young Massachusetts investors. The platform, he said, “does not present itself as a serious investment with substantial risk.”

“It presents itself as a kind of game you could win,” he added. The complaint estimates that in early December, Robinhood had about 500,000 customers in Massachusetts, with accounts for more than $ 1.6 billion.

Massachusetts regulators, under Galvin’s leadership, are known to take a hard line against financial companies, which previously led investigations against Charles Schwab Corp. and Fidelity Investments, among others.

But the complaint against Robinhood focuses, in part, on what the regulator says is the company’s violation of the state’s new fiduciary rule, which it began enforcing in September. The complaint marks Mr. Galvin’s first compliance action.

The regulation states that a broker-broker has a duty to retain his customers, in part by making recommendations that prioritize the interests of customers without taking into account the interests of any other party. Regulators say lists of popular trades to which users have access can influence the values ​​traders buy, without the company conducting a “suitability analysis” of those investments.

“This is no different to a broker agent handing out a list of securities to a client, pretending to be surprised when the client buys securities from that list and then proclaims that he made no recommendation to the client,” the complaint.

Among other requested aid, Massachusetts regulators are trying to require Robinhood to hire consultants to review its infrastructure in response to platform outages and improve its user approval policies for options trading. The complaint also suggests that an administrative fine be imposed on Robinhood.

Write to Caitlin McCabe to [email protected]