GameStop Hearing Was a Solution in Search of a Problem

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The House Financial Services Committee convened the main players in the GameStop Corp. saga for a hearing on Thursday, and the mood was decidedly populist. Both Democrats and Republicans expressed solidarity with retail investors, but after more than five hours of questions, it still wasn’t clear why ordinary investors need their help.

If anything, the showdown between hedge funds and Redditors that gave rise to the hearing has shown that retail investors are far more sophisticated than lawmakers and regulators give them credit for. Using publicly available information and the humble tools Robinhood and other trading apps provided them, they laid low mighty hedge fund managers like Melvin Capital by betting against them and winning, some of them minting a fortune in the process.

If anyone needed a reason to cheer the democratization of markets, GameStop is it.

Still, lawmakers couldn’t resist conjuring up a host of imagined problems. It’s not a problem, for instance, that Robinhood Markets makes money by selling its users’ orders to market makers such as Citadel that execute those orders. On the contrary, payment for order flow has given many more investors access to trading than would otherwise be possible. The alternative, which was the industry standard before Robinhood came along, is to charge users commissions, but those commissions make trading prohibitive for the smallest investors. 

It’s also not a problem that retail investors meet on Reddit to exchange trading ideas. There’s no evidence that Redditors manipulated markets or broke any laws. With the surging popularity of trading and the widespread use of social media, it’s inevitable that both smart and stupid ideas will circulate on Reddit and other platforms. But it’s whimsy to think Reddit and other social media sites can police bad ideas without treading on the good ones. 

Nor were financial markets in any jeopardy during the GameStop episode. Aside from Robinhood, no financial institution was threatened or even showed distress. And as Robinhood found out when it faced capital calls, numerous guardrails are in place to make sure brokers don’t undermine the broader financial ecosystem.

Given that GameStop’s stock has plunged roughly 90% since it peaked, it’s fair to assume that some retail investors lost money. But that’s no reason to roll back the progress made to democratize markets. There’s no way to prevent losses without also denying investors access to the greatest engine of wealth creation ever devised.

 The goal should be to help investors use the tools now available to them to build wealth rather than destroy it, and Robinhood can do a lot to help. It can impress on users that trading is likely to cost them money and that day trading is ruinous. It can explain how it makes money so that users understand the trading app isn’t truly free. It should also explain the difference between trading and investing and encourage users to put most of their money in broadly diversified low-cost funds.

The problem, of course, is that Robinhood has little incentive to educate users because the more they trade, the more money it makes. This is where regulators can help. Robinhood is just the first in what is likely to be a growing number of trading apps. Regulators should work with Robinhood and others to promote disclosure, investor education and good investing habits. It will help the millions of new investors flocking to markets and help keep Robinhood out of trouble.

The GameStop saga is also a reminder that there’s more work to do to democratize markets. Robinhood undoubtedly failed retail investors when it restricted their trading while their hedge fund nemeses were free to continue trading elsewhere. But it’s also the failure of the larger financial system that for too long refused to give many ordinary investors full access to markets. The fact that until very recently they had few options but to rely on what turned out to be an undercapitalized upstart might be the biggest scandal of all.

Chairwoman Maxine Waters plans to hold additional hearings with regulators and consumer advocates. When they do, lawmakers should be mindful that markets have never been more orderly and efficient and accessible to a greater number of investors. It wouldn’t be difficult to derail that hard-earned progress. 

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Nir Kaissar is a Bloomberg Opinion columnist covering the markets. He is the founder of Unison Advisors, an asset management firm. He has worked as a lawyer at Sullivan & Cromwell and a consultant at Ernst & Young.

©2021 Bloomberg L.P.

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