By Eric Shoykhet, CEO & Founder, Atom Finance
2020 changed the fabric of public markets forever. The pandemic not only forced us home, but for many, it forced our attention online, and drove a frenzied adoption of online brokerages. While the tides were clearly already shifting in this direction, the new access ushered in by feeless and fractional trading has incentivized millions of first-time investors to participate in the stock markets. In fact, the recent spotlight on Robinhood, Reddit’s r/WallStreetBets, and GameStop has only made retail investing more mainstream. There are more public market investors now than at any other time in U.S. history.
In 2020 alone, over 10 million new accounts were opened across brokerages including Charles Schwab, E*Trade, TD Ameritrade, and Robinhood, according to CNBC. The average daily volume of shares traded soared from $7B in 2019 to $11B in 2020, according to investment bank Piper Sandler. While 2020 ushered in incredible growth for retail, there’s no sign of slowing down. Certainly, an additional wave of new investors has come to the markets in 2021 and, according to Credit Suisse, retail trading as a percentage of market activity has grown by a factor of two-times to nearly 30%. But while stock trading has ostensibly been democratized, access to important financial information has not, unless you know where to look.
Education about trading and market risk is vital to protecting novice traders from financial ruin. While Robinhood, and others, have created new access to the public markets, they have also opened the door to complex trading instruments available to novice investors. While these platforms have opened the floodgates and invited millions to participate in the public markets, the dark side of this access is increased risk. For new traders to make smart decisions, they need access to accurate and timely insights. Below are a few trends we’ve noticed.
1. Exotic investment instruments in the hands of novice traders can be more hurtful than helpful.
Silicon Valley innovators have brought more than just access to the public markets; they’ve created access to institutional-grade trading mechanisms that drive win-or-go-home behaviors such as Options and Margin trading. According to Q1’20 Options Velocity data, Robinhood traders had placed over 10x more options contracts than the nearest competitive brokerage. On the outside, it might appear as though these trading platforms simply give their users greater access to make trades. In reality, they’ve incentivized speculative behavior while failing to explain the very basics of trading mechanisms and the risks involved. During the recent retail short squeezes, investors on Robinhood traders quickly took positions in GameStop (9.88% of accounts), AMC (15.73% of accounts), and Nokia (12.62% of accounts), according to brokerage account data linked to Atom Finance. If these platforms continue to provide institutional access, novice traders must also have access to institutional-grade education.
2. Many retail investors trade on herd movements and headlines.
Headline trading is an increasing concern. For example, in 2020, Hertz stock (HTZ) increased over 800% as 125,000 new traders invested in the company after it announced its plans to file for bankruptcy. Hertz jumped 56 cents (05/22) four days after filing for Chapter 11, to $5.53 on 06/08, surging 887% other than shorts trying to cover. As a result, in October, the NYSE suspended trading of Hertz as the company tried to sell $500M in stock during their bankruptcy restructuring. What we didn’t know then was that Hertz was simply a precursor for Gamestop, whose stock price would surge by as much as 1,600% in January ‘21 despite the company closing over 1,000 locations since 2019. Novice traders should educate themselves about the underlying fundamentals behind the headlines. Otherwise, they could get burned in the process by simply following the herd.
Additionally, the surge of investor activity, and corresponding business value for these brokerages, has brought retail trading platforms front and center, with sky-high valuations and revenues thanks to payments for order flow (PFOF). In 2020, Robinhood made approximately $700 million by collecting PFOF. While some brokerages have eliminated PFOF from their business model and other’s, like Bill Gurley, have called for it’s ban in light of the recent Robinhood drama, PFOF is a key profit center for these brokerages and won’t be surrendered easily. These revenues, combined with increased investor growth, have created off the charts valuations for online brokerages. Morgan Stanley made a $13 billion bid for E*Trade, and Robinhood’s last private valuation was $11.7 billion. The company is preparing for a $20 billion IPO. Given this misalignment in incentives between brokerages and their users, it’s crucial for market makers to put in place guardrails to prevent their users from being taken advantage of.
3. Lack of access to institution-grade data and information is creating an educational void.
With many new investors making their first trades, the platforms where they execute their orders have done little to expand access to adequate financial education and learning resources. In a Bloomberg report, over 50% of Robinhood’s new customers in 2020 said they are first-time investors, according to the company. Access to platforms designed to educate investors and help them make informed decisions, like Bloomberg Terminal, is often extremely costly and therefore accessible mostly to institutional investors. But data-resource companies like Atom Finance, a low-cost market intelligence platform, are leading the pack in educating investors and empowering them to make informed investment decisions through intuitive software. While legacy data providers are opting to inundate their customers with more data, despite hardly improving the usability of their products, Atom has taken a different approach by providing a software solution that makes the research process more efficient. At a time when access to investing education and financial due diligence is of utmost importance, this ease of use makes all the difference.
All in all, access to public markets is a good thing. Encouraging people to enter the markets could help personal finances and lead to a more democratic global economy. But access to exotic and sophisticated institutional trading mechanics necessitate equal access to education. Invite people in, but show them how to maximize profits while avoiding risk. With great power (and knowledge) comes great responsibility.
Eric Shoykhet is Founder and CEO of Atom Finance. Atom’s platform provides all the tools investors need in one platform, including institutional-quality resources that were once only available to Wall Street professionals.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.