GameStop stock was down over 50% this morning from yesterday's close. Robinhood and other firms are shutting down new trades in the stock, while prime brokers are not. So ... what's the deal?

Before the desktop computer become the norm (and then smartphones), people who wanted to trade stocks would call up their broker, place the order, and the deal would be done.

The broker's order would be routed to a "specialist" on the floor of the New York Stock Exchange or other exchange. This specialist controlled ALL (as in 100%) of the trading in that particular stock.

Want to buy stock in General Motors? ALL of those trades went through the GM specialist on the floor of the NYSE. This job as specialist was a license to print money. So much so, that a man would leave the "job" to his son when he retired or died, to keep it in the family. Why?

It's because the specialist had control of the "book" of orders. If a big investor wanted to buy 10,000 shares of GM at $35, the specialist would see this order come through from a broker, and it would be up to the specialist to place the order (or not).

When the price was where it needed to be, the specialist would place the order. There had to be people who wanted to sell 10,000 shares of GM, too. When there was an imbalance or orders (buys vs sells), the specialist would work the orders to make as many go through has possible. He got a cut of all the order placements.

But that's not how he got rich. He got rich by front running the orders. If he knew for a fact that 10,000 shares would be bought, he might buy a few thousand shares for himself first, and then place the big order, selling his own shares into the buyer's purchase. That could make him thousands of dollars per day. And this was back in the day when a new Cadillac cost just a few thousand. Imagine how wealthy a specialist would get. And they did.

Once the electronic systems came in and replaced those old systems, the role of the specialist was replaced with market makers. They didn't have as much of an advantage, but they could still buy and sell at better prices than the general public. This is ok, as long as it is a reasonable price difference, because they "make a market," meaning they add liquidity to the market.

But a couple of years ago, all the stock brokers went to $0 commission pricing. Why? How would they make money?

Turns out, they are basically setting up the new specialist system to front run YOUR orders.

Robinhood Financial agreed to pay a $65 million fine for failing to disclose its cozy deal with Citadel.

Robinhood, the free stock-trading app aimed at millennials, will pay $65 million to settle charges from the feds that it misled users about how it was making money and failed to deliver the best execution it had promised on trades.

Between 2015 and 2018, Robinhood neglected to mention to its app users that it was making massive profits by selling their trade data to the highest bidder instead of finding the best price

That practice, known as “payment for order flow,” undermined Robinhood’s famous “no-commission” trading sales pitch by inflating what users paid for shares.

The SEC says Robinhood users were cheated out of more than $34 million by this practice, even when taking into account the lack of commissions, while the company made most of its revenue by selling order flow to financial titans like Citadel Securities

https://nypost.com/2020/12/17/sec-slaps-robinhood-app-with-65m-fine-for-misleading-users/

Now, why would Citadel pay Robinhood for "order flow?" Since Citadel has to PAY the exchanges to execute trades (they pay money OUT, they do not receive money IN), why would they pay a broker for the privilege? The only logical conclusion is that some of these "order flow" companies are doing the old "specialist" scam by seeing what prices people will pay BEFORE those trades hit the market, and then front run the trades, screwing the investor/trader who made the trade.

Melvin Capital, the hedge fund with a massive short position in GameStop, was bailed out by Citadel and Point 72, to the tune of almost $3 billion. Point 72 is owned by Steve Cohen, who was banned for life from investing other people's money due to allegations of insider trading. One of his guys is now running Melvin Capital, and Cohen has $1 billion invested in it. That would explain why he wants to bail out Melvin.

But why would Citadel want to help? Although I can't find specific info, the head of Melvin (Gabe Plotkin) also worked for Citadel before working for Cohen. I'm guessing Citadel also has an investment. I read somewhere (can't find the source) that Melvin only has 7 investors.

Another interesting line from that article:

It has been widely reported that Robinhood intends to go public in 2021 and has even hired Goldman Sachs to lead its IPO, but that process will be complicated if the company keeps paying out millions in fines to justify its business model.

So, the owners of Robinhood want to cash out by going public this year! Would that be an incentive to pump stocks, pump investors to buy a bunch of stocks, and therefore pump revenues so their IPO price will be higher?

Robinhood is not unique. All of the "zero commission" brokers are getting paid BIG money for "order flow" placement?

https://www.cnbc.com/2020/08/13/how-robinhood-makes-money-on-customer-trades-despite-making-it-free.html

Why? There is NO advantage to the investor for this. It is just another Wall Street scam.

The little guy buying and selling on a zero commission platform is not the problem, though is being used as the scapegoat. Here are the questions people should be asking:

(1) Why does the SEC and the NYSE (owned by Kelly Loeffler's husband) allow illegal naked short selling in some stocks?

(2) Why are "zero commission" brokers getting paid millions of dollars for "order flow placement" if they are required by law to offer the BEST PRICE FILL for their investors?

(3) Which brokers, investment bankers, and hedge funds illegally sold short and when will they be charged for their crimes?