Why Robinhood Shares Dropped on the First Day of Trading?

The debut of Robinhood — the controversial brokerage that sparked a retail explosion — in the public stock market was expected to be a wild ride. Instead, it hissed.

Robinhood lost 8.4% to $34.82 a share yesterday after the company’s IPO initially priced its stock at $38, which was the lower end of its expected range. CEO Vladimir Tenev, whose 8-year-old brokerage helped introduce a new generation to the financial markets, made a whopping 35% of the shares available to private investors (normally institutional investors get dibs on new shares), but about 20 % to 25% of the shares to them, according to Bloomberg.

Tenev’s brokerage is far from the only company with a mediocre first day. About a quarter of IPOs in the US have fallen on their debut this year, according to data collected by Jay Ritter, a professor of finance at the University of Florida. He said the moderate volatility in Robinhood’s stock is surprising, but understandable — the supply’s pricing at the lower end of its expected range suggests that institutional investor demand was weak.

Institutional money managers may suspect that the retail boom has peaked after a long rally in financial markets and as pandemic-era stimulus weakens. The major investors may also be wary of Robinhood, as so much of its revenue comes from order flow payment (PFOF). Instead of sending clients’ trades to an exchange, those orders are sent to large trading firms (market makers) who pay Robinhood for the right to execute the trades. Proponents of Robinhood’s business model say retail traders have never had it better and individual investors get the cheapest stock trade ever.

While that argument is sound, the business model nonetheless is: to be scrutinized by the Securities and Exchange Commission out of concern that it creates a conflict of interest and that retailers are not getting the best trading execution available. Robin Hood said it can adapt on a PFOF ban if necessary, and experts have told Quartz that, rather than a PFOF ban, changes to disclosure are the most likely outcome.

How Robinhood Discourages Clients From Flipping IPOs

Some expected a frenzy of small traders shooting in and out of Robinhood stock. But the brokerage has incentives for clients to hold IPO stocks rather than flip and sell them right away: executives seek patient, long-term investors for their stocks who are more likely to stick with them through ups and downs, rather than hot money traders who turn the business around right away.

As such, Robinhood customers selling stock within 30 days of an IPO can be prevented from: participate in an offer for the next 60 days. Therefore, Ritter did not expect heavy sales from the shoppers. “In general, institutional investors are more likely to flip than retail investors,” he said.

Despite all the enthusiasm for Robinhood’s brokerage app, which continued to bring in new users despite technology outages and cleanups with regulators, there are signs that individual investors weren’t quite as excited about the IPO. As Bloomberg reported, the retail allocation was smaller than it could have been.

Wallstreetbets was not keen on Robinhood’s IPO

Some commentators on Reddit’s Wallstreetbets forum, an unofficial town hall for day traders and private investors, were sour about the offer. Many retail investors were outraged early this year when Robinhood restricted trading of GameStop stocks, which have been at the center of a battle between hedge funds betting against the video game retailer, and individual traders trying to inflate the price. Though the episode sparked conspiracy theories, Robinhood’s trading restrictions seemed to have more to do with market remediation than any effort to protect hedge fund elites.

Unfortunately, there are boards on reddit that some retailers have not forgiven Robinhood executives, with comments about Wallstreetbets discrediting the brokerage’s commitment to small investors. But at least one big money manager thinks Robinhood holds promise: ARK Investment Management, the company run by stock-selection legend Cathie Wood, bought about 1.3 million shares yesterday, a chunk of stock worth about $45 million.

This story has been updated with the addition of sections 4 and 5 to provide additional context about institutional investors.