SEC: Robinhood Securities failed to comply with Regulation SHO, the regulatory framework designed to address abusive short selling practices.

The Securities and Exchange Commission (SEC) announced today that Robinhood Securities LLC and Robinhood Financial LLC, collectively known as Robinhood, have agreed to pay $45 million in civil penalties to settle a series of charges stemming from significant regulatory violations in their brokerage operations. According to the SEC, the firms failed to comply with critical legal obligations, including maintaining accurate trading reports, safeguarding customer data, and adhering to rules designed to prevent market abuses like short selling. Acting SEC Enforcement Director Sanjay Wadhwa emphasized the importance of such compliance to protect investors and uphold market fairness.

The SEC’s findings detail widespread lapses, including failures to timely investigate suspicious activity, protect customers from identity theft, and address cybersecurity vulnerabilities. Notably, an unauthorized breach in 2021 exposed sensitive data of millions of customers. Additional violations included inadequate recordkeeping, failure to maintain critical brokerage communications, and noncompliance with securities trading regulations like Regulation SHO.

In addition, according to the SEC’s order, Robinhood Securities alone committed the following violations:

• Electronic Blue Sheets: For more than five years, Robinhood Securities failed to provide complete and accurate securities trading information, known as blue sheet data, to the SEC. Robinhood Securities admitted the SEC’s findings concerning blue sheet filings.
• Fractional Share Trading and Stock Lending: In connection with its stock lending and fractional share trading programs, Robinhood Securities failed to comply with Regulation SHO, the regulatory framework designed to address abusive short selling practices. From May 2019 through December 2023, Robinhood Securities violated Reg SHO’s close-out, order-marking, and locate requirements.
• From mid-2019 to June 2023, Robinhood lacked systems to aggregate positions in securities and determine its net position at the time of entering principal sale orders.
• This inability resulted in incorrectly marking principal short sale orders as "long."
• From December 2019 to December 2023, Robinhood misclassified over 15 million principal short sale orders as "long."
• By October 2020, Robinhood began incurring intra-day net short positions, leading to incorrect marking of more than four million short sales monthly by February 2021.
• Robinhood also failed to meet the locate requirement for these misclassified orders.
  • n March 2021, Robinhood made adjustments to its Fractional Trading program to reduce principal short sales:
    • Modified coding to address scenarios leading to short sales.
    • Added static inventory for stocks available for Fractional Trading.
  • While these measures reduced misclassified trades, they did not eliminate the issue entirely.
  • From June 2021 to June 2023, Robinhood continued marking all principal orders as "long," monitoring for further improvements.
  • In June 2023, Robinhood implemented a new system to calculate its net position in real time and comply with Regulation SHO's marking and locate rules.
• Despite the remedial actions, Robinhood misclassified more than 15 million short sale orders as "long" from December 2019 to December 2023.
• From December 2019, Robinhood’s systems marked "street leg" riskless principal short sale orders as "long" based on customers’ underlying positions, which were always long.
• However, Reg SHO Rule 200(g) requires such orders to be marked based on Robinhood’s own net position in the security.
• Between February and May 2022, Robinhood took measures to address the issue:Increased static inventory to reduce riskless principal short sales.Marked orders "long" only if the net position at the start of the day was long.Used a "short exempt" order mark when the position was short at the start of the day.
• These changes reduced misclassifications but did not fully comply with Rule 200(g), as Robinhood continued to mark some orders incorrectly based on customers' positions rather than its own.
• From December 2019 to May 2022, Robinhood misclassified over 58 million Fractional Trading riskless principal short sale orders as "long" instead of using its net position for accurate marking.
• From May 2022 to December 2023, Robinhood used the "short exempt" mark for transactions that did not comply with Rule 201(d)(6).
• The company lacked necessary written policies and procedures during this period.
• In December 2023, Robinhood implemented compliant policies and procedures.
• Robinhood applied the "short exempt" mark to certain riskless principal short sale orders that did not qualify. This occurred because Robinhood executed customer orders at different prices than what it received, violating the definition of a riskless principal transaction under Rule 201(a)(8).
• From May 2022 to December 2023, Robinhood misclassified over 4.5 million principal orders (including riskless principal orders) as "short exempt", when they should not have been.

Robinhood admitted to many of the findings and has agreed to conduct internal audits and certify remedial actions. Robinhood Securities will pay $33.5 million, while Robinhood Financial will pay $11.5 million, in penalties as part of the settlement.

This settlement marks another regulatory challenge for Robinhood, which has faced heightened scrutiny over its operations in recent years. The SEC’s action underscores the importance of robust compliance measures for broker-dealers and raises questions about Robinhood’s commitment to investor protections and market integrity.

Robinhood Securities submitted incomplete or inaccurate EBS data to the SEC 11,849 times during the specified period, affecting the reporting of 392 million transactions.

The company failed to comply with Regulation SHO:

• From May 2019 to March 2020, it did not close out "fails to deliver" resulting from stock lending activities.
• Between December 2019 and December 2023, it misclassified millions of short sale trades as "long" due to its inability to calculate proprietary positions at the time of sales.
• From May 2022 to December 2023, it misclassified 4.5 million trades as "short exempt" despite not meeting the required conditions.

• In late 2018, Robinhood began developing a stock lending business where it loaned out customer-owned securities.
• Robinhood knew this could lead to fails to deliver when customers sold securities that had been loaned to third parties.
• Instead of ensuring compliance, it relied on recalling stock loans, but these recalls did not always return shares in time to meet close-out obligations.
• Between May 2019 and March 2020, Robinhood systematically incurred fails to deliver that were not resolved per Rule 204(a)'s requirements.

• From mid-2019 to June 2023, Robinhood lacked systems to aggregate positions in securities and determine its net position at the time of entering principal sale orders.
• This inability resulted in incorrectly marking principal short sale orders as "long."
• From December 2019 to December 2023, Robinhood misclassified over 15 million principal short sale orders as "long."
• By October 2020, Robinhood began incurring intra-day net short positions, leading to incorrect marking of more than four million short sales monthly by February 2021.
• Robinhood also failed to meet the locate requirement for these misclassified orders.
  • n March 2021, Robinhood made adjustments to its Fractional Trading program to reduce principal short sales:
    • Modified coding to address scenarios leading to short sales.
    • Added static inventory for stocks available for Fractional Trading.
  • While these measures reduced misclassified trades, they did not eliminate the issue entirely.
  • From June 2021 to June 2023, Robinhood continued marking all principal orders as "long," monitoring for further improvements.
  • In June 2023, Robinhood implemented a new system to calculate its net position in real time and comply with Regulation SHO's marking and locate rules.
• Despite the remedial actions, Robinhood misclassified more than 15 million short sale orders as "long" from December 2019 to December 2023.

• From December 2019, Robinhood’s systems marked "street leg" riskless principal short sale orders as "long" based on customers’ underlying positions, which were always long.
• However, Reg SHO Rule 200(g) requires such orders to be marked based on Robinhood’s own net position in the security.
• Between February and May 2022, Robinhood took measures to address the issue:Increased static inventory to reduce riskless principal short sales.Marked orders "long" only if the net position at the start of the day was long.Used a "short exempt" order mark when the position was short at the start of the day.
• These changes reduced misclassifications but did not fully comply with Rule 200(g), as Robinhood continued to mark some orders incorrectly based on customers' positions rather than its own.
• From December 2019 to May 2022, Robinhood misclassified over 58 million Fractional Trading riskless principal short sale orders as "long" instead of using its net position for accurate marking.

TLDRS:

• The SEC announced a $45 million settlement with Robinhood Securities LLC and Robinhood Financial LLC over significant regulatory violations in brokerage operations.
• Robinhood failed to comply with legal obligations, including maintaining accurate trading reports, safeguarding customer data, and adhering to anti-market abuse regulations like those addressing short selling.
• A 2021 cybersecurity breach exposed sensitive data of millions of customers, highlighting Robinhood's lapses in addressing cybersecurity vulnerabilities.
• The SEC found Robinhood failed to protect customers from identity theft, investigate suspicious activity, and maintain adequate recordkeeping and brokerage communications.
• Robinhood Securities failed to provide accurate Electronic Blue Sheets (EBS) data to the SEC over a five-year period.
• Violations of Regulation SHO spanned from May 2019 to December 2023, including noncompliance with close-out, order-marking, and locate requirements in fractional share trading and stock lending programs.
• Robinhood misclassified over 15 million short sale orders as "long" from December 2019 to December 2023 due to its inability to calculate net positions in securities.
• More than 58 million riskless principal short sale orders were also misclassified as "long" from December 2019 to May 2022.
• From May 2022 to December 2023, over 4.5 million principal orders were improperly marked as "short exempt", despite failing to meet regulatory requirements.
• Robinhood implemented some remedial actions, including coding adjustments and enhanced inventory systems, but compliance issues persisted until June 2023.
• The settlement includes penalties of $33.5 million for Robinhood Securities and $11.5 million for Robinhood Financial, alongside commitments to conduct internal audits and certify remedial measures.

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