Robinhood Shares Rise After SEC Set to Keep Payments for Order Flow

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Robinhood shares are up 2% in the morning trading session after the stock market regulator in the United States, the Securities and Exchange Commission, was rumored to allow brokerages to keep taking payments for order flow, or PFOF. Shares in the company were last exchanging hands around $10.25, which would mean shares are down 42.7% for the year, and 73% from the initial public offering price of $38.

Wall Street brokerages have been nervously anticipating rule changes to the almost $50 trillion U.S. stock market that the SEC is set to announce after new Chair Gary Gensler said that the regulator would be taking a close look at some of the most foundational ways that brokers and asset managers conduct their business. The Chair had previously also indicated that the practice of PFOF may run against investors best interest.

Payment for Order Flow is the practice whereby brokers receive a fee, or payment, for routing their customers’ orders to various market makers and high frequency trading firms that then execute the order. Proponents of PFOF say that it increases liquidity in the system by allowing brokers to charge lower commissions to their clients, which in turn enhances trading. PFOF also allows brokers to focus on servicing their client and leaves the difficult and technical job of matching orders to a different specialized entity.

Key for the system to work properly, however, is that brokers must document that they are selecting trading venues and market makers based purely on the best execution of their clients’ orders, and not the ability to benefit from routing orders to entities that would give them the highest payment for those orders. PFOF is banned in most countries and has come under increased scrutiny in the U.S. in recent years.

Brokers such as Robinhood claim that PFOF allows them to offer their retail clients zero commissions for trading, which in turn encourages more investors to participate in the stock market and invest for their future. Robinhood is one of the biggest beneficiaries of the PFOF system as it is the company’s primary revenue generating method. Brokers have also been making the argument to regulators that PFOF actually improves price discovery and improvement for their clients.

While the SEC seems set to allow PFOF to continue, presumably determining that the practice is overall more beneficial than it is harmful, reports suggest that the regulator may still be pursuing other mechanisms to limit the profitability of the tactic. One of the biggest ways the SEC may do so is to lower access fees to exchanges, so brokers are incentivized to route orders directly to those exchanges instead of market making intermediaries. Another key change would be regarding simplifying the complicated system for rebates and numerous order types that lowers transparency in the system.

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