Why is everyone talking about the Robinhood action?

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Robinhood Markets (NASDAQ: HOOD) recently became a hot topic again after a series of negative developments caused the online brokerage firm’s shares to drop below its IPO price of $ 38. Let’s review these headlines, if investors have overreacted and if his stock is still worth buying.

A terrible shortfall

Robinhood’s latest decline began after the release of its disappointing third quarter earnings report on October 26. Its revenue grew 35% year-over-year to $ 365 million, but topped analyst estimates by nearly $ 73 million. Its forecast of “less than $ 1.8 billion” in revenue for the full year, which implies maximum growth of 85%, also far exceeded expectations of 111% growth.

Image source: Getty Images.

To make matters worse, Robinhood’s Monthly Active Users (MAU), Funded Accounts, Assets Under Custody (AUC), and Average Income Per User (ARPU) have all declined sequentially. He blamed the slowdown on waning market interest in more speculative cryptocurrencies like Dogecoin (CRYPTO: DOGE).

In the end, Robinhood’s net loss fell from $ 11 million to $ 1.32 billion as she paid $ 1.24 billion in stock-based compensation expenses. These bonuses were tied to the stock’s performance after the IPO, and its initial rally – which propelled its shares to an all-time high of $ 85 per share on August 4 – sparked massive payouts to the founders of the ‘business.

A massive data breach

On November 8, Robinhood revealed that it had suffered a data breach five days earlier. He said the threat was “contained”, but admitted that the hackers obtained the email addresses of about 5 million users and the full names of a different group of about 2 million users. . In other words, the attack potentially affected nearly 40% of Robinhood’s MAUs.

Robinhood also said additional personal information of 310 other users – including their names, dates of birth and zip codes – has been exposed. Within this group, 10 users suffered even “more extensive” violations.

Robinhood said that no Social Security number, bank account number or debit card number was exposed in the breach and the breach caused no financial loss to its customers. Nevertheless, the incident could tarnish its brand and lead its potential clients to turn to other free trading platforms like Square‘s (NYSE: SQ) Cash App.

The escalating war on PFOF trading

Robinhood offers “free” stock trading by selling its clients’ orders to market makers such as high frequency trading companies (HFTs). HFTs then reserve a small profit on the bid-ask spread of each order.

This payment-for-order flow (PFOF) model may seem like a “win-win-win” deal for the investor, brokerage house and HFT, who typically offer stocks at lower prices than the exchanges. public. However, critics claim that the PFOF model prevents retail investors from getting the best prices.

Robinhood relies heavily on PFOF revenues to conduct commission-free transactions, but the United States Securities and Exchange Commission (SEC) has considered an outright ban on PFOF transactions over the past year. This unresolved threat has cast a cloud over Robinhood shares since its IPO.

PFOF transactions have already been banned in Canada, the UK and Australia. This is why Robinhood’s shares sank again on November 9 after a Bloomberg report claimed the European Commission was also considering a ban on PFOF transactions. If the United States and Europe both ban PFOF trading, Robinhood should probably start charging commissions for its stock trades.

Have investors overreacted to bad news?

Robinhood continues to grow, but analysts expect its earnings to grow only 23% next year as retail investors trade fewer stocks even and shy away from more speculative cryptocurrencies. But based on those expectations, its stock actually looks cheap at less than 13 times next year’s sales.

However, Robinhood’s valuations are likely to remain depressed until it stabilizes sequential growth, cuts losses, and overcomes regulatory hurdles for PFOF transactions. Unless he gets over all of these challenges, Robinhood could continue to make the headlines for all the wrong reasons.

This article represents the opinion of the author, who may disagree with the “official” recommendation position of a premium Motley Fool consulting service. We are heterogeneous! Questioning an investment thesis – even one of our own – helps us all to think critically about investing and make decisions that help us become smarter, happier, and richer.


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