Robinhood was recently ordered by FINRA to pay almost $70 million —the largest single penalty FINRA has ordered to date—in part as a result of its widespread misrepresentations concerning the potential risk of loss to its customers who were engaged in trading options spreads. FINRA found that between January 2018 and March 2021 Robinhood published false and misleading statements concerning the “risk of loss” with respect to debit spreads. It also found that Robinhood falsely reassured its customers who had engaged in options spreads that they need not take steps in order to mitigate their risk as they approached the options expiration date. Robinhood was found to have provided customers with false information about the actions Robinhood would take with respect to those spreads on their expiration date. In another portion of the order, Robinhood was sanctioned for improperly approving clients under 21 for risky options trading.
FINRA found that, as a result of these misrepresentations and omissions on the risk of options spreads, that at least 630 customers incurred losses totaling over $5.73 million. The order requires that Robinhood pay $5,731,520.67 as restitution for losses that its customers suffered as a result of these negligent misrepresentations and omissions. Robinhood states that it already has paid or that it intends to pay $3,639,948.70 of that amount to 134 of its affected customers.
Robinhood Mislead Customers about Options Risks
The regulator found that Robinhood’s reassuring statements were false and misleading because they failed to account for the risk its customers faced in either of these two alternative scenarios:
Options Trading Scenario 1– A short option that is held to expiration is assigned and the long option expires worthless; or
Options Trading Scenario 2– A short option is not assigned and the long option is exercised, whether by Robinhood or by the customer.
FINRA found that despite Robinhood’s assurances to its customers about risk, in each of these two scenarios a customer can incur losses far exceeding the premium amount the customer paid to enter into the options spread transaction. Below is the risk statement
Moreover, through its website and in direct customer emails, Robinhood falsely assured customers that it was not necessary for the customer to act in order to mitigate risk in the days and hours leading up to the options expiration date. Robinhood informed its customers through its website that, if at expiration, the stock price went “below the low” (in call credit spreads) or “above the high” (in put credit spreads), Robinhood would “automatically let both options expire worthless, so you don’t need to worry about checking the app.” However, what these statements did not disclose was that if the customer, relying on Robinhood’s statements, chose not to close their positions prior to expiration, that their short options could still be assigned (for example by going in the money after hours)—thus resulting in losses. Other misrepresentations were found in Robinhood’s emails to customers emails during the week that their options contracts expiring, representing that, for short options positions, “[y]ou’ve already set aside the appropriate collateral for assignment.” This statement was false as well since it failed to account for the fact that customers needed to take additional action to mitigate risk in the days and hours leading up to expiration.
For those Robinhood customers who had entered into options spread transactions, the “collateral for assignment” was alternatively : (1) the long option that secured the spread (in a debit spread) or (2) the long option, as well as the cash the customer had set aside when entering the spread (in a credit spread). However, what Robinhood failed to disclose was that if a customer was assigned on the short leg, that customer would need to exercise the long option that they had purchased as collateral for the spread. Likewise, FINRA found that Robinhood failed to disclose that if a customer failed to close their positions heading into expiration, there might be a window during which the short options could be assigned –but where the customer would be unable to exercise their long options—thus leaving that customer exposed on their short obligations. FINRA found that many Robinhood customers may have suffered losses by relying on Robinhood’s false statements.
Robinhood’s Customers Lost Money on TESLA Option Spreads
In an example highlighted by the regulator, on September 4, 2020, over 130 Robinhood customers who had Tesla options spreads which were expiring suffered losses either (1) because they were assigned on their short options after hours while their long options expired worthless, or (2) because Robinhood exercised their long options while their short options were not assigned. FINRA found the average Robinhood customer lost tens of thousands of dollars, despite that Robinhood had represented to them that their maximum losses would be a fraction of that amount. Robinhood has discontinued its misstatements about the risk of loss associated with options spread transactions.
Robinhood Falsely Represented it Would Sell Long Options in the Spread Transaction Rather Than Exercise Them
Robinhood was found to have falsely told its customers who had entered into options spread transactions Robinhood would sell, rather than exercise, their long options if they did not have the buying power (or did not hold the underlying shares) necessary for exercise. Rather than sell, Robinhood instead exercised many of its customers’ long options, causing them significant losses. Robinhood represented this misinformation both on its website and through direct emails to customers. In its educational materials contained on the website, Robinhood stated, “If your option is in the money, Robinhood will automatically exercise it for you at expiration unless . . . [y]ou don’t have sufficient buying power.” Reiterating this message, during the week that a customers’ long options were expiring, Robinhood sent them emails stating, “We will automatically exercise any option in the money if you have enough buying power. If you don’t, we’ll sell your option for you about 1 hour before it expires.” Robinhood once again repeated this message on the day of expiration: the firm sent customers with expiring long options emails advising them that if they didn’t have a sufficient number of shares of the underlying security (for put options) or they didn’t have sufficient buying power to purchase the shares (for call options), Robinhood would “sell your option(s) about an hour before market close.” Notwithstanding these statements, Robinhood many times would exercise the long legs of its customers’ options spreads, just assuming that the customers would be assigned on the short legs. Because in some circumstances this assumption turned out to be incorrect, this left the customers with insufficient buying power, or alternatively the necessary shares to deliver on their obligations. Because of this, many Robinhood customers received margin calls and suffered losses. Robinhood has since removed these misstatements concerning the conditions under which it would exercise the long legs of options spread positions.
Robinhood Improperly Approved Customers for Options Trading
FINRA also found that Robinhood improperly approved customers for options trading, It was also sanctioned for failing to both reasonably supervise its system for approving customers for options trading and for failing to exercise due diligence in approving customers for options trading. Because of these violations, Robinhood approved thousands of customers for options trading when those customers did not meet the firm’s approval criteria or where their account information contained red flags indicating that options trading was not suitable. Many people suffered investment losses who really should not have been allowed to trade options in the first place.
HAVE YOU LOST MONEY TRADING OPTIONS ON ROBINHOOD?
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Not everyone who loses money in options trading has a claim against their brokerage firm. However, under certain circumstances where misconduct or violations of securities laws and rules have occurred, investors may have the right to seek legal recourse. If you or a loved one have suffered investment losses as a result of an online options investment or any other type of investment fraud or broker negligence, contact the offices of Investment Fraud lawyer Melanie Cherdack for a free consultation. Because she has been in the trenches as a former Wall Street attorney, Melanie Cherdack and her team of experienced attorneys have seen just about every type of investment fraud or investment scam. While almost every investment carries a degree of uncertainty and risk, you may have been unnecessarily exposed to such risk. Former Wall Street securities attorney Melanie S. Cherdack and her team of lawyers represent individual and institutional investors who are unwitting victims of investment fraud and broker negligence. She heads up a group of attorneys who represent investors across the United States. Contact us by filling out our online contact form, or calling 844-635-1609 or 305-349-2336.