Lawsuit Filed Against Robinhood, Alleging Market Manipulation

Unless you have been living under a rock for the past few days, you probably saw the news: A group of Reddit users and retail investors essentially broke the stock market, driving the price of certain stocks through the roof and costing hedge funds billions of dollars. The entire event is sure to be studied for years and will have many long-lasting ramifications. However, one of those examples is a class-action lawsuit filed against Robinhood, a stock-trading app that found itself in the middle of the short-selling event when it limited access to buying GameStop and other stocks.

The Event

The background of the case is complicated, but it essentially boils down to this: A group of retail investors, led by users of the subreddit /r/WallStreetBets, realized that there was an opportunity for major gains within the GameStop stock, as a variety of hedge funds had put in a short position. This meant that these funds were betting that GameStop's stock would lose money, and these funds could profit off of GameStop's financial pain. Using apps like Robinhood, Reddit investors were able to buy enough stock that the price of the stock began to increase, causing other investors to pile into the stock. This forced investment firms to purchase the stock in greater numbers in order to hedge their losses, causing a "short squeeze" that cycled the stock price higher. Many of these firms have lost billions of dollars over the past few weeks as a result of these actions.

Robinhood's Actions

Many of these retail investors used Robinhood. Robinhood was seen as a great app for retail investors because it allowed users Commission-free trading. There had been technical problems with the app before, and it had crashed, causing users to lose the ability to access their portfolios. However, these had always been chalked up to technical issues, not market manipulation.

That changed on January 29, when Robinhood restricted access to users who were seeking to buy stock in GameStop and other targeted stocks, like AMC Theaters and Blackberry. Users could still sell their stock but weren't able to buy more. Even more nefariously, the company began to Robinhood said that their actions were done in order to protect the liquidity of the company and their users, alleging that they didn't think there was enough cash flow to complete trades.

Robinhood would relax the restrictions the next day, but not remove them entirely, and limits were still in place on how many shares of GameStop users could buy. It only did this after tapping lines of credit and seeking an additional billion dollars in investment. This, of course, implied that the company has a liquidity issue and needed additional cash in order to be able to meet trading requirements. 

The class-action lawsuit was filed within eight hours of the stoppage.

The Lawsuit

The lawsuit alleges that Robinhood's actions essentially boiled down to market manipulation. It points to the fact that Robinhood's actions essentially stopped the rally of GameStop stock, forcing it to decline shortly afterward. The lawsuit alleges that the company engaged in market manipulation by restricting the right of investors to purchase GameStop stock, thus removing their ability to participate in a free and open market. 

More nefariously, some have alleged that Robinhood stopped the sale of GameStop and other stocks in an effort to limit the market loses being suffered by these major hedge funds. 

It is worth noting that Robinhood isn't the only trading company that engaged in this practice. Other brokerage firms, such as TD Ameritrade and Charles Schwab, also limited trades. However, Robinhood became the most visible of these apps, given their extreme limitations and popularity with the traders that had first created this market rush in the first place. 

There is no question that this case has fascinating legal implications. It is also clear that it is just the beginning of the scrutiny that Robinhood will face: Senators and Representatives of both parties have called for Congressional oversight and SEC enforcement against the company as a result of their actions, and it seems very, very probable that hearings will follow that will further examine this issue and determine potential culpability for Robinhood.

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