The real reason is as follows:

You cannot use customer funds to cover dtcc collateral terms.

Your milk example does not work, because you are not settling up the milk buy 2 days after. You settle your milk purchase on the spot.

So you’re saying the issue is “what if the grocery goes insolvent before it can hand you the milk, but after you’ve paid”?

I’m still not understanding how robinhood lost money in the first place.

That's an accurate enough analogy.

When you sell a stock on Robinhood, it takes ~2 days to "clear" the transaction. So, Robinhood credits your account, but Robinhood doesn't see that money for 2 days. They don't allow you to withdraw the money from Robinhood until its cleared, but you can purchase other stocks with the money, and if you do that, Robinhood now needs to send something to the seller. All brokerages, and the clearing houses they work with if they don't self-clear (RH, IB, WeBull, etc do not self-clear; bigger banks do), maintain a level of "float" to handle these payments; its like grease which allows the system to move faster, and the bigger these pools of money, the less risk there is.

Robinhood is the #1 app on the App Store right now. EVERYONE is getting in on this. Many of these users likely joined with an invite code, and Robinhood will give out two random shares of stocks for each of these users ($$). After they're in the app, they're probably using the Instant Deposits feature to trade on up-to $1000 they've started transferring but which hasn't cleared yet (pressure on the float). Many of these users are, in WSB terminology, paper hands; they bought GME @ 250, its at 320 now, they want their gains, so they sell immediately; more pressure on the float.

If that float hits zero, that's basically like, imagine your company's bank account hitting zero, its payday (because every single hour of every day is payday for a brokerage), and you have 50 million employees. People would sell stocks, and the number in their account wouldn't go up. In fact, people couldn't even buy or sell stocks, because that float is used to pay fees on every transaction to their clearing house. Now, people are scared; their faith in robinhood has been shook, and they want out. So, they try to sell stocks; they can't. They're angry. If they have settled funds, they pull those out, which just compounds the problem because now their balance sheets start looking weaker and weaker, which makes access to emergency credit lines harder. Basically, they would implode irrevocably. Even the hint of a liquidity crisis is enough to tarnish a firm's reputation.

IMO, I think the biggest driver of this issue for Robinhood is their instant deposits functionality. That feature is insane, and in market runs like this, deadly. Robinhood hasn't actually "lost" money (well, not enough to cause a liquidity crisis); its just the problem of not having enough money right right now to pay people who need to be paid.

But, the deeper issue is the US financial system and its molasses speed of moving money around. The Fed is making strides to improve this, but it will take a decade or more before we see real change.

These are 2 different things

(1) Credit risk - this is what you describe

(2) Counterparty risk - this is collateral. This is different.

The 2 are interlinked insofar that the counterparty (2) may react to the perceived credit risk (1) , however these are 2 separate risks at play.

** To go back to the milkman, the correct analogy would be:

Your son wants milk. You go to the farmer's market - but you can't hand over cash to farmer. Remember, his milk is spoiling, there's a huge line to buy, and he just doesn't have time to count bills, square exact change, or screen for potential fake bills. He only accepts bank transfers, and you dont have a bank acct. So you buy milk on credit, and agree to settle when he's not too busy (as you have always done).

Now, the farmer has been noticing you are buying a lot of milk for your son, and the empty milk bottles you left with him on deposit ("float") are not sufficient to carry all the milk you are buying....so he's now asking for many more bottles, which are expensive. He refuses cash collateral - he will only take more bottles, because he's concerned about all the cash you seem to be handling recently.

You don't have extra cash of your own, for bottles. You can't commingle funds. So therefore, you stop taking milk requests from son...and the other 10M children

“But, the deeper issue is the US financial system and its molasses speed of moving money around.”

Sorry, I’m going to be That Guy here and point out that when people accuse Bitcoin of having slow transactions, this is what they should be comparing against, not Visa card transactions. Actual settled transactions. Bitcoin takes 10 minutes. US financial system takes days.

A Fed Wire is a settled transaction, and it is settled in seconds. The only reason they're not used more is that they cost about $10. OTOH a Bitcoin transaction has been more than that recently, and it doesn't settle in seconds.

I do think, if more people knew the extent to which the US financial system is a house of cards, cryptocurrency would be even more popular. Not necessarily concerning fundamentals, as the US is still fundamentally strong. Primarily concerning the edges of the system and the institutions we interface with every day.

I know Robinhood, and other firms, are trying to downplay what happened yesterday (and is continuing to happen right now!). Its possible their version of the story is accurate. It feels more likely that its not the whole truth.

We were treading really close to a 2007-level market event yesterday, though not due to bad ratings, rather liquidity. It wasn't just robinhood that was impacted; robinhood and IB both said that they made the decision internally, but WeBull said they were instructed by their clearing house to cease trading, and even large firms like TDA started enforcing limits. It was very close to going systemic, and not because of bad fundamentals, not because of an economic downturn, all because an unprecedented number of Americans wanted to join in on the stock market they're entitled to join in on, but our financial institutions were not ready for it.

When you lay out the reality of our system; that money moves so slow that every single institution who wants to handle money, for nearly any purpose, needs a bank account billions upon billions of dollars large just to be able to move as fast as people expect the system to move, and if that bank account gets too low the problem near-instantly spreads to the next bank in line; the system is very fundamentally broken, and people need to demand change, because our financial system runs EVERYTHING.

Moreover; if WSB's theory on this is correct, and if these WSB stocks like GME/NOK/BB/etc don't reduce in value; we missed a meteor yesterday, but a second one is still coming. This isn't just about bankrupting a hedge fund. When the margin calls on these short positions start coming in over time, the price of these stocks continues to rise, and eventually, the current "diamond hands" (as WSB call them) will sell their shares. We're talking about billions of dollars here; that's a massive liquidity spike that our institutions are still not ready to handle. Granted, as always, its the IDIOTIC institutions who got us into this by taking out the INDEFENSIBLE short positions in the first place, but they're systemic; they know they can do whatever the hell they want and get away with it, because if they go down they take every American with them.

Except you misunderstand one important part in the system, and that is credit drives the wheel of growth. Cryptocurrencies, while transactions settle much faster, are designed around a "hard-money" ideology. You know what's worse than inflation? Deflation. Now, there are pushes for credit in the cryptocurrency world, but as of now, it doesn't seem widespread.

Of course credit systems have their own problems, like debt growing so large that it's impossible to pay back. But usually a nice reset does wonders.

Since credit systems and money is created by governments, they have the power to do such resets and have done so in the past many times in the last 5000+ years.

If the credit systems collapse into a cryptocurrency hard money world, there will be a new emergence of desperate people, slavery, and war.

Credit absolutely can, and actively does, exist in the crypto world. If I have 10 bitcoins, I can lend them to whoever I want. I have to rely on the legal system to get them back in the case of a bad actor, but there are other emerging coins which encode the idea of credit into the blockchain itself. I doubt they'll work very well; the legal system is still critical to ensuring credit functions, and that doesn't have to go away with crypto.

Credit systems are not created by the government. Sure, the government is the biggest player, but at the philosophical level, credit systems are created by anyone who has an asset but doesn't need it right now.

The bigger thing that crypto does actively do away with is actively managed monetary policy. The populace hates on the people in power (banks, funds, government) for their quest for wealth and power, but for all the wrong that happens, monetary policy has been the single biggest driver in providing creature comforts and a modern lifestyle for the average citizen of the planet.

There absolutely is a substrate of "holy shit nothing is actually anything" at the very core of our economy. We print money to pay off loans given to us by other countries bought with their printed money. Nothing actually is anything. But, computers aren't cool with that; there is very real, hard math in the deepest parts of cryptocurrencies. You can take one of two sides in this argument, and I'm not sure either is absolutely correct (partly because, I'm not even sure there is a definition for was "correct" means in this context): Either you believe that substrate should be hard math, and modern economics is a farce, or that you believe monetary policy is the only way to ascend an economy beyond trade and barter, that we need men in suits at the top pulling levers and twisting dials to keep this machine running another day.

Maybe its alright that nothing is actually anything, and it can stay that way forever, chasing infinite growth as we expand into the cosmos. Or, then, maybe someone hacks our computer and changes the value of the Blemfark from One of its itself to Zero of itself.

Here's what I do know; whether or not it would be better, people seem to increasingly desire less top-level control and less delegation of so much power to wall street firms. Crypto is going to continue to get more and more popular, even if its against the best interests of the people, because our government and wall street underestimated how much influence the 300 million people that aren't them actually have. That's the cost of democracy and a free society; it sometimes takes the wrong path.

Credit systems are absolutely created by the government if they involve the dollar (or other sovereign currency). There is not a bank in the modern world that lends money. Banks don't lend out existing assets.

I'm sure there are crypto systems that create this kind of credit, but "lending out your bitcoin to someone" is very different than how Banks create credit.

Just my two cents.

I created a Robinhood account on Wednesday evening and transferred $1000 via Plaid. My account is still not active and AFAIK that $1000 is in limbo.

The app tells me "We're reviewing your application and your deposit is pending. Application approval may be delayed. We'll notify you when you can begin trading."

Note that if you start being able to use those funds before several weeks have passed, you're almost certainly going to be trading on margin even though you made a "cash deposit", because ACH funds will not settle for up to a month.

IIRC this is a new thing in order to limit exposure to the positions above.

So if RH would just make you wait 4 days before you could trade again, then there wouldn't be any problem? But then it would be a lot less attractive / addictive app.

This is not a Robinhood thing; every single brokerage does this. Robinhood is a bit unique with their instant bank deposits feature, that's something traditional banks don't generally do, but its really just a minor extension of this same idea.

Robinhood is accessible, so it has serviced the bulk of the retail investor spike that happened this week. Additionally, I expect that their net liquidity is far, far lower than a traditional bank, just given their age and diversification of business. They needed money, so they went to JP Morgan. Plenty of people also trade with JP Morgan, but (and I can't believe I'm saying this) JP Morgan actually, to some degree, knows what the fuck its doing. Robinhood doesn't; Robinhood is basically a teenager who just got a new car, wanted to show off to some friends, crashed it, and is now crying on the phone to daddy.

Which, to be fair, is exactly the same thing every bank had to do in 2007, except daddy was the US Government.

You do realize that their Instant bank deposits feature is a fiction? Until the money clears you are trading with their float - they just paper that over.

I just checked in on this from yesterday and this is just fantastic. Such a clear explanation of T+2 and all the extra stuff specific to Robinhood that's probably a further drain on their cash position. So thanks SO much for this.

Also, it should probably exist somewhere a bit more first-class than buried in an HN thread, because it's just unbelievably educational.

Huh I didn't know that. The firm I worked for did self-clearing, and we had no customers (prop trading). I guess that means these requirements didn't really matter for us because everything was ours?

even if you self clear , you are still a broker clearer and you end up touching the DTCC.

This is exactly what Robinhood is doing too.

This twitter user explains, although it gets quite technical:

https://mobile.twitter.com/wallstcynic/status/13550134381546...

Look at the tweet at 7:41PM EST.

" But if RH takes in 500m of new money and 300m buys GME, then at minimum they are looking at posting 30m+ from just that exposure at NSCC. They cannot use client money - RH has to use their own resources to post. And if GME stock drops, RH has to post the loss pre-settlement."

Last I heard, the DTCC have raised collateral requirements on GME from 1-3% to 100%. Seriously. That's the real reason clearing houses stopped accepting new orders on GME from brokers.

Is there a way for a regular person to see the current DTCC collateral requirements for a particular stock?

I believe this is only available in the Collateral Monitor dashboard that institutions that must post collateral have access to.

They have to have a certain amount to cover the value of all the stocks held by their clients so when 50% of their account holders have a stock that suddenly gains 2-20x value things get tight. In your analogy the price of the milk is relatively stable in the case of gamestop the value of the milk is fluctuating wildly between the time you sent the kid, when he got to the store, when he picked up the milk, etc etc. except the kid is legally required to deliver the milk or make you whole.

> They have to have a certain amount to cover the value of all the stocks held by their clients

Huh? I don't understand this. What do they have to hold and why?

It’s an SEC rule to guard against brokers going insolvent. Trades are not instant transactions so there’s a lot of credit being floated for days. Good thread explaining this, though still complex: https://mobile.twitter.com/KralcTrebor/status/13549526861652...

It feels like slow movement of money in our financial system causes a lot of these problems. Customer deposits take several days to settle (during which time Robinhood has to front the funds). Settlement of the stock trades / transfer of collateral to the DCC likely takes several days, etc.

The mismatch between the speed of trading and the speed of settling can under extreme circumstances cause problems, evidently.

> It feels like slow movement of money in our financial system causes a lot of these problems

I'd turn that around and say that the hyper fast trading causes a lot of these problems, and in particular creates more problems than it solves.

Introducing a Tobin Tax and replacing continuous trading with frequent auctions (maybe with stochastic end times, to limit sniping) would alleviate a lot of these problems, and put the rent-seeking HFT traders out of a job, while not impeding the important price discovery and capital allocation functions of the market much at all, I think.

What's a Tobin tax?

Oh, sorry, it's this very simple idea that every trade is subject to a tiny fee (a few basis points). Totally irrelevant if you buy for the long term, but utterly destroys the business model of HFT.

https://en.wikipedia.org/wiki/Tobin_tax

EDIT to add: Appropriately enough, Wikipedia says:

> Another term for these broader tax schemes is Robin Hood tax, due to tax revenues from the (presumably richer) speculator funding general revenue (of whom the primary beneficiaries are less wealthy)

This sounds like a problem that might actually be solved best by blockchain.

Honestly, just the utilization of stablecoins for interbank transfers would help with a ton. I acknowledge that it's technically possible to update the existing system to just support faster settlement, but given how long we've been waiting, I find it unlikely.

As a user, I'd love to be able to deposit and withdraw stablecoins at banks - this would enable essentially instantaneous transfers, and provide an interface that anyone (including non-banks) could interface with.

It's a Dodd-Frank rule apparently. [0]

[0]: https://www.zerohedge.com/markets/cash-strapped-robinhood-sc...

I presume it's a safety mechanism required by the financial apparatus so that they can make their investors whole if they ask to withdraw all at once. Something that given the current circumstances is actually quite possible. But being candid, that's just a guess.

Please do, this is not reddit.

In RH everyone who opens an account starts as an Instant amount.

The Instant means any security sold you can immediately use that cash.

Normally you can't go that. You have to wait 3 days for it to settle in the clearing House. The Instant accounts are using margin to make the cash instantly available.

Another small example. Robinhood gave me one share of GE when I joined. I didn’t want it, so I sold it and withdrew the money. I initiated the withdrawal request yesterday for $10.69. It’d be amusing to me to find they would have been fine if I only withdrew $10.68.

Based on my very limited knowledge, it is my understanding that banks/brokers don't actually consider the deposit to be valid until several days after the transaction. Even if you deposited cash they would probably find some way to delay letting you use the funds pending some 'internal checking'.

So in Robinhood's case if there are many people depositing dollars to buy stock then that could be their reason or excuse to not have funds available for trading. Just a guess.

Yeah I forgot about a credit card payment that was due a number of years ago, before I had online banking. I went in 2 days before it was due and paid it cash. I still got a late penalty added brcause cash takes three days to clear.

A bill under £2 and got hit with a fee of £20

In the UK, cash paid at the institution in question clears the same day. If bundled with a cheque (rather than as two separate transactions) it will clear at the same time as the cheque.

I had something similar happen to me many years ago. I took ATM cash from another account, plus what I had in my house and wallet, to make up the amount that an auto-paid credit card bill due on that same day would have sent me overdrawn.

I avoided the overdraft penalties.

The most absurd thing was that the bank, RBOS, callee me few days after about the late fee asking me if i was having money problems... It was a bill under £2 that had just slipped my mind. If they had checked any of my other accounts they would have seen that i had about £50k with them.. . But no a £2 bill has them calling me almost sounding like they were shaming me over an inconsequential amount of money!

Trades aren't immediate they take T+2 to clear. During that time frame, Robinhood has to put up collateral.

Correct. And more to the point, RH cannot use customer funds to cover that timeframe.

It must be its own funds. And the requirement of funds to be covering (collateral) can change on them with very little warning

Who determines the collateral required?

The NSCC sets the framework, but it is spelled out in Dodd-Frank that they have to do so by law.

There are some other items, but that's the basic idea - full details are here: https://dtcc.com/-/media/Files/Downloads/legal/policy-and-co...

If you want to dive further i recommend this thread :

https://mobile.twitter.com/KralcTrebor/status/13549526861652...

It’s federal law, part of the Dodd-Frank reforms in the wake of the 2008 financial crisis. I recommend this: https://twitter.com/kralctrebor/status/1354952686165225478?s...

I only knows how it works in otc derivatives and then the collateral is equal to the cost of taking an offsetting position, and is calculated inter-day. But I would guess it is something similar on the stock market.

In this case, the NSCC, or the NAtional Securities Clearing Corporation.

This is the right answer. And with the amount of volitility GME was seeing, and the amount of trades of it, created lots of money for the user, but RH was still days away from the transactions actually settling, thus they didnt have the cash from the sale yet.

The people using Robinhood are to some degree trading on margin, that means that they are trading with money they don't have in their account, which means that Robinhood also does not have it, at least not from you. They need to have a buffer of money to deal with the borrowing, which in this case they almost ran out of.

In this case, it has nothing to do with trading on margin and everything to do with Robin Hood having to cover 10% with the NSCC per the Dodd-Frank rule. [0]

[0]: https://www.zerohedge.com/markets/cash-strapped-robinhood-sc...

Apparently DTCC raised that to 100% for a few of the meme-stocks (GME).

Is that knowingly trading on margin, or just how it works behind the scenes? If the latter, why?

The financial system is slow. ACH can take days before you can be sure things won't be reversed, trades take two days to settle, there's various anti-money-laundering policies everywhere that generally take the form of holding on to money for a bit to make shady things easier to track and detect.

So, anyway, for lots of reasons, things that users think should be instant, aren't. And that's really bad UX, especially for a platform that depends so much on emotional stuff: "deposit $200 bucks and buy 3 shares of X, leaving you with a $30 cash deposit which RH can then earn interest on" is probably how a large amount of RH's balances come into being. That breaks if it's going to be a 1-day gap between someone depositing their money and then buying the shares.

So everyone papers over holes like this with margin.

It's amazing that we still accept financial transactions taking days to actually "clear." Surely there's a market opportunity for someone to invent a way to do these anti-money-laundering things without delaying transactions. It's astounding that in 2021, it takes multiple days to increment a number in one database whilst decrementing that number in another database.

Not an expert by any means, but I know in the world of trading there is often the requirement of guarantees before transactions are accepted. It's like your kid, at the store, was asked to show he actually had $100, before his $5 could be accepted and milk handed over.