a) It's not clear these were margin calls. If they were, absolutely, they were in the right. If these were cash accounts, this would be... bad.
b) The MM's almost certainly didn't force RH to shut down buys. Current speculation is it was likely a combination of pressure from clearing houses and their own internal risk management.
Odds are they didn't have enough capital on hand to deal with settlement given the level of volatility, and if they let more people buy, it would've pushed them over allowable levels.
And note, I say this is speculation because RH has been completely opaque about what happened here. All they say is "we have regulatory requirements", and we're left filling the blanks.
"As a brokerage firm, we have many financial requirements, including SEC net capital obligations and clearinghouse deposits. Some of these requirements fluctuate based on volatility in the markets and can be substantial in the current environment."
This does obliquely point to the issues I mention above, and is enough to unpack what happened here if you have an understanding of the structural mechanics of stock trading. Though it'd be nice if they were a lot more direct in their language, here. If I was a layman investor this'd look like meaningless obfuscation.
But it's certainly (somewhat) better than some of the early interviews and reporting...
This might indicate that, at least for this sort of fintech, "lean" can't be an option: there will need to be some form of deep-pocket backing in order to stop the company from going belly-up due to a short-term credit crunch. Fortunately RH had sufficient funding for that, but it's conveivable that the next time if there's an even bigger collateral call by the clearing houses (or some other issue) they won't be able to cover it-- sort of like Bear Sterns in 2008, which collapsed more because of lack of confidence than actual liabilities, which it could otherwise have weathered, but panic set it, they lacked credit necessary to stay afloat, and were basically liquidated at crazy fire sale prices. (I'm Not saying they didn't have a lot of responsibility in their downfall: they played fast & loose, and when that collapsed it caused a general panic on them as a whole)
> This might indicate that, at least for this sort of fintech, "lean" can't be an option: there will need to be some form of deep-pocket backing in order to stop the company from going belly-up due to a short-term credit crunch.
Honestly, I think this is tough. Building a regulatory regime for a six sigma event is extremely difficult.
That being said, there probably needs to be a better mechanism--maybe a market wide 24 hour circuit breaker plus some sort of emergency credit backstop--to ensure liquidity for these types of events without disadvantaging any particular market participants.
I dunno, I'm making shit up here and don't know what the hell I'm talking about.
Seems complicated though...
Now, I will say, if you ask me, it's about time to start putting in even more short-side controls.
Allowing these massive funds to build gigantic positions with infinite loss potential clearly represents systemic risk, particularly given we've seen over and over and over again that, as much as these institutions are supposed to be "professionals", their risk management is utterly inadequate.
Start with totally banning naked shorts. Increase margin requirements on short positions. Maybe flat out ban shorting over a certain percentage of float. How about limit the amount of short-side risk a firm can hold as a percentage of its total portfolio.
RH is in many ways a victim of a much much larger structural market dysfunction.
> Fortunately RH had sufficient funding for that,
So that I don't agree with.
RH had to completely stop buy-side activity on their platform yesterday and then massively curtailed it today. Not only did they not have sufficient funding to support BAU, they still don't!
Meanwhile, the controls they put in place to allow them to limp along single-handedly produced a massive drop in the price. Then, to add insult to injury, they increased margin requirements and margin called accounts, forcing liquidation at substantially reduced prices, thereby locking in losses for their clients.
My guess is they're buying time, right now, by limiting buy-side volume and dipping into credit lines, until the 1B cash infusion lands on their books, all while preparing for the class action lawsuits and congressional investigations.
Good point, and is actually the thing I have the most problem with here with other institutions but you're right that RH did the same thing: only weathered the storm by a few mechanisms, one of which upended democratic access to the market.
RH probably had a bad choice to make: The clearing houses were demanding more collateral, RH had to figure it out. RH was still wrong, but the fundamental problems were those mechanisms that allowed lack of collateral to discriminatorily disadvantaged on class of investors in favor of others. I doubt that was the deliberate intent when these mechanisms arose, but it sure is the result, and needs to be fixed.
I'm not convinced on the theory of efficient markets & allocation of capital. WSB making decisions knowingly contrary to the underlying finances of a company sort of undermines that theory. Those theories pretty much rely on people making, mostly, fundamentally, financial decisions, even if they're wrong or poorly informed. WSB was making more a philosophical decision (along with some pile on FOMO, sure) and that method of decision making is definitely not covered by the theory of efficient markets.
Though I suppose the GME incident, with the peripheral stocks like AMC, could be viewed as the first round of an iterated prisoner's dilemma. It was a "defection" that worked this time. But, if the institutions impacted and those watching are left to respond on their own instead of through artificial protection, they might very well come up with strategies that would thwart the philosophical decision making of WSB in this situation.
Which is kind of crazy: It looks like their default margin is 100% of your cash balance.
It would be much more transparent to be opt-in & say "Hey, you deposited $1k. If you want, we're willing to loan you an additional $1k." I think more people might refrain from margin trading if it was presented that way. But it would reduce trading volume, and therefore a major revenue source in the form of trading data they sell to market makers, so of course they don't do that.
As it stand though, to my outsider's eyes it makes their theoretical liabilities twice their collateral. Normally that's probably fine, gains & losses on large volumes of divers stockes will even out. But in unique circumstances (um, right now) the collapse of a single stock (or worse, a highly correlated asset class) puts them on the hook for an amount equal to their customers' losses.
Considering their retail clientele, it's probably fair to assume that many of their customers can't (or won't) cover those loses by depositing more cash... hence the suicide a while back.
Ugh, I know. Honestly, I will be more than happy if RH doesn't survive this. Gamifying investing and all but encouraging gambling behaviour, defaulting to allowing trading on margin, and now their behaviour over the past couple of days... there are far better options out there these days.
b) The MM's almost certainly didn't force RH to shut down buys. Current speculation is it was likely a combination of pressure from clearing houses and their own internal risk management.
Odds are they didn't have enough capital on hand to deal with settlement given the level of volatility, and if they let more people buy, it would've pushed them over allowable levels.
This is supported by the fact that they've drawn down about 500mm from debt facilities and announced a 1B funding raise this morning (https://www.nytimes.com/2021/01/29/technology/robinhood-fund...), while throttling purchases of GME to no more than 5 shares per account and no more than 10 options contracts (https://robinhood.com/us/en/support/articles/changes-due-to-...).
And note, I say this is speculation because RH has been completely opaque about what happened here. All they say is "we have regulatory requirements", and we're left filling the blanks.
Edit: In fairness to RH, I should note that in their blog post on the topic (https://blog.robinhood.com/news/2021/1/28/an-update-on-marke...) from late yesterday they mention:
"As a brokerage firm, we have many financial requirements, including SEC net capital obligations and clearinghouse deposits. Some of these requirements fluctuate based on volatility in the markets and can be substantial in the current environment."
This does obliquely point to the issues I mention above, and is enough to unpack what happened here if you have an understanding of the structural mechanics of stock trading. Though it'd be nice if they were a lot more direct in their language, here. If I was a layman investor this'd look like meaningless obfuscation.
But it's certainly (somewhat) better than some of the early interviews and reporting...