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21 October 2020

Confetti Trading

2020 has created a historic market environment, providing significant volatility, leading to opportunities for some to make large speculative wins, but increasing the potential for dramatic downside all the while. From the continuation of Brexit talks, a potential US-Iran war, the China-US trade war, Australia’s forest fires and the huge movements in tech stocks, these are just some of the market-moving events that have occurred this year. Volatile markets often lead to an increase in trading, which has recently been further exacerbated by the entrance of new market participants and the facilitation for retail trading.

Robinhood, a retail trading platform in combination with the effects of COVID-19 has managed to amass 13m+ users, along with other trading apps gaining thousands of, primarily, young members who have deposited money and started to trade. These new age slick interface platforms immerse the users in a game-like environment where there is ‘confetti’ everywhere to celebrate making a trade and depositing money. Users are attracted by their zero-commission business models, but are in fact paying a hidden cost of the spread, which a trade must cover before they enter profitability. This Silicon Valley fintech baby has grown to capture a huge market audience with the gamification of trading and the limitless access to markets, with arguably no barriers to entry, where one can set up an account and deposit US$100 and be trading with hundreds of thousands in margin within minutes. It sounds like the dream, for a young teen they can be the Wolf of their Bedroom, trading complex financial instruments and betting big on the next Tesla or Amazon. But there is an unmentioned dark side to this tail.

Robinhood, just one example, has been met with a huge range of challenges as the fintech leader in this space. It has been frequently challenged by the US SEC, lawsuits, and growing competition from traditional Wall Street firms, and that is not to mention the tragic suicide of a young trader who believed that he was US$700,000 in the red. These gamified apps allow investing millennials to play with fire, as they treat their portfolios often similar to betting, where you either make it big or zero-out the trade.

When oil futures turned negative a few months ago, on fears that global demand would fall with decreased travel, financial reports warned traders not to enter these unpredictable positions. This did not stop traders betting big on where the fall was going to rebound. On Robinhood, the number of users holding the United States Oil Fund increased 300% over the three days following oil futures’ dive into sub-zero prices. A third of holders certainly felt the burn, as over the next week this number of traders ditched their holdings before the price showed any sign of recovery. They fell to the adage of buy low and sell lower. The sad fact is that if they used cash instead of borrowing funds from their broker, they would have suffered significantly less. The CFA Institute found that less than half of millennials investing with taxable accounts were “extremely or very confident” in their investment-making decisions, and that was back in 2018 and doesn’t account for mass inflow of young traders during COVID-19. But how would these traders know the risks of investing when they are buried in the fine print by these new age investing platforms?

A 20-year-old Robinhood user committed suicide, after being allowed to trade with close to US$1m in leverage and trading complex options which he did not understand. Alex Kearns, left a note for his parents on 12th June 2020, asking one simple question, “How was a 20-year-old with no income able to get assigned almost US$1m worth of leverage?”. Like the millions of other millennials, Kearns started to participate in stock investing during the pandemic, signing up to Robinhood. Kearns was in shock when he noticed a negative cash balance of US$730,156 displayed in red, and sadly acted upon this, believing that he was servery indebted. Due to the complex nature of the options which Kearns was allowed to trade; this was just the effect of a temporary balance until the stocks underlying his assigned options, settled into his account. This is simply a cautionary story, that as these tech-progressive trading platforms allow more and more inexperienced traders access to financial instruments and leverage, they cannot afford, it can have serious real-life consequences.

Please note that investments and income arising from them can fall as well as rise in value and you may lose some or all the amount you have invested. Past performance and forecasts are not reliable indicators of future results or performance. Please note that this communication is for information only and does not constitute a recommendation to buy or sell the shares of the companies mentioned.
Confetti Trading
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