Robinhod (NASDAQ: HOOD) Chief Executive Officer Vlad Tenev recently said that he does not think that the payment for order flow (PFOF) model of market-maker routing that the firm incorporates in the United States is under any type of threat.
This would be despite suggestions from various consumer trading advocates as well as regulators for a complete ban on the PFOF model.
In statements shared with CNBC, Tenev reportedly defended the PFOF model, noting that it is inherently “here to stay.” He was making a reference to PFOF as it currently exists in the US, where the practice has been made legal and is well-regulated.
PFOF is essentially the practice of routing trades via market-makers such as Citadel Securities in exchange for a portion of the profits.
The business model has helped trading companies such as Robinhood with lowering commissions all the way down to zero, making it more economical for consumers to invest in a large range of stocks.
In a recent interview with CNBC, Tenev stated:
“If I’m a business that’s selling things, and I’m generating transaction revenue, the more you use it, the more money you get. Inherently, there’s a conflict there because I make more money by getting you to transact more. I think it’s important not to take the baby out with the bathwater. What does that mean, you shouldn’t make revenue on a transaction-based business? That’s unreasonable.”
PFOF has been considered controversial due to the apparent conflict of interest it can potentially create between the broker and customers.
Industry professionals claim that brokers have an incentive or motivation to direct order flow to market makers providing PFOF arrangements over the best interests of customers.
At present, PFOF is banned in the United Kingdom, where Robinhood revealed its plans to launch operations (this past Thursday).
Notably, the US Securities and Exchange Commission (SEC) had looked into the possibility of placing a ban on PFOF due to concerns regarding the practice, however, the regulator decided not to do so, meanwhile, the EU has placed a complete ban on PFOF.
PFOF reportedly makes up for a relatively small amount of Robinhood’s total revenues, Tenev calims, and most of its earnings come from net interest income which is obtained from cash in user account balances.
Transaction-based revenues or earnings, like PFOF, decreased about 7% in Robinhood’s 2nd fiscal quarter to roughly $193 million.
Robinhood’s management said that if you look at equities, PFOF specifically, “it’s about 5% of their revenue, so a much smaller component of the overall pie.”
And they claim to have diversified the business a lot. This includes areas such as securities lending, margin, and subscriptions.
It’s worth noting that Robinhood’s focus on constantly lowering commission fees has led to industry participants in the wealth management sector to reduce their own fees down to zero. These moves had led to some firms closing down operations or even selling up to their competitors.
For instance, TD Ameritrade had been sold to Charles Schwab for $26 billion, and Morgan Stanley acquired E-Trade for $13 billion.
Tenev also mentioned:
“In the U.S., Robinhood came along and really changed the industry. The discount brokers that are charging commissions essentially ceased to exist. They had to drop commissions to zero. A lot of them couldn’t survive that transition as standalone companies and ended up consolidating.”
As reported recently, Robinhood is rolling out brokerage services in the United Kingdom.
UK customers will have access to commission-free trading of more than 6,000 US-listed stocks and ADRs “including TSLA, AMZN, and AAPL.” Their expansion to the UK marks “an important milestone in their journey to democratise finance around the globe and increase access to the markets for all.”
At launch, they’ll offer trading without foreign exchange (FX) fees, trading outside of market hours “with Robinhood 24 Hour Market, and no account minimums.”
Customers can build a portfolio “for as little as $1 and grow their uninvested cash as they work out their investment strategy, earning 5% AER.”
For more details, check here.