Robinhood gets $3M to take from Wall St. and give to Main St. with its mobile-first, zero-commission brokerage

By Michael Carney , written on December 18, 2013

From The News Desk

Today, being a digital native no longer means being an acne-faced teenager, living at home with your parents. People who grew up turning to the Internet first for access to information and services – often called Generation Y or Millennials – now live on their own, have professional careers, and thus need access to financial services. But the financial industry has been slow to adapt to this sea change or to introduce products that make investing accessible and approachable to this new generation.

Robinhood is a mobile-first financial services company that aims to change this with the launch of the world’s first zero-commission stock brokerage. Today the company announced a $3 million seed round which formally closed in October. The round was led by Index Ventures with participation from Andreessen Horowitz* (a16z), Rothenberg Ventures, Howard Lindzon’s Social Leverage, and Tim Draper’s Draper Associates. The company previously raised an undisclosed sum from Google Ventures.

In addition to today’s funding news, the company announced that its newly formed, wholly-owned subsidiary, Robinhood Financial LLC, has received Financial Industry Regulatory Authority (FINRA) approval to operate as a securities broker-dealer. This is a non-trivial step that has prevented many Silicon Valley financial technology companies from properly attacking the brokerage incumbents, and which will allow Robinhood to offer its clients stock, corporate bond and option trading. (The company will initially limit trading to US-listed stocks and exchange traded funds, aka ETFs.) Robinhood financial will be run by a separate team of experienced and licensed securities professionals, many of which joined the company from E*Trade.

Robinhood is the first retail brokerage to offer unlimited commission-free trading. At traditional brokerages like E*Trade and Charles Schwab, retail consumers typically pay fees of around $10 per trade. But behind the scenes, these institutions trade amongst themselves at a cost of pennies per trade, making the retail markup almost entirely profit margin.

“The brokerage industry has operated essentially the same way since it began, and it took until now for someone to develop a mobile-first, zero commission trading model," says Index Ventures partner Jan Hammer. "Robinhood is the right idea, at the right time, to enable and empower a new generation of investors to build their financial future at a younger age, and we're excited to be on the ground floor of this sea change.”

Vlad Tenev and Baiju Bhatt, the former Stanford roommate founders of Robinhood, are on their third financial technology startup. Along that journey they’ve seen firsthand the inefficiency in the incumbent brokerage system and decided to cut out this trading fee markup search for other ways to earn money.

Initially, this monetization mechanism will be to offer margin trading, aka lending money to traders who wish to borrow capital to invest beyond the value of their portfolio – an incredibly high-risk proposition for both the lender and the borrower. Robinhood plans to offer other premium products and services in the future, according to Tenev, as well as expand to support other securities like corporate bonds, currencies, and international equities. The company also plans to offer an API, opening up access to its platform to integration with third parties software systems.

Robinhood is in the final stages of testing today and the company plans to begin granting access to the trading platform in January 2014. Access to its iPhone app will be granted slowly, on a first-come first-served basis, beginning with those already on its waiting list. The company plans to offer iPad and Android apps, as well as a Web product, within the first half of the year, according to Tenev. Today, Robinhood is a US-only platform, but, longer term, the company has hopes of expanding to address the global asset management market.

It’s not just the zero-commission structure that makes Robinhood unique. The company has also developed a ‘live’ mobile trading app that eliminates much of the friction associated with traditional brokerages. Never again will customers need to make a phone call or, heaven forbid, send a fax to initiate or authorize a trade.

“In an age when people are attached to their phones, it is a natural fit to take trading and investing to a mobile-first format," says Social Leverage general partner Howard Lindzon, who is also the co-founder and CEO of social, stock micro-blogging service StockTwits.

Index Ventures is also no novice to the financial services sector, having led an investment into the Wealthfront asset management platform. Rather than view these two portfolio companies as competitive, the firm sees them as complementary. In a blog post today, Hammer points out that that Wealthfront is targeting “a market which was largely ignored by incumbents – those without the resources to delegate to high-end asset manager.” Conversely, the firm sees Robinhood as “addressing the other half of the market – the DIY-ers...a lively community of engaged users who are curious about performance of individual stocks, who are keen to test their own investment instinct and who want to instantly act on their decisions.”

The zero-commission trading platform will allow these curious traders to dip a toe in the water in ways that were never possible before. Previously, a $100 speculative trade was never feasible given the burden of the $10 flat commission structure of most brokerages. But with Robinhood’s no-fee brokerage, traders can test investment theses or participate in the market with far less investable assets than was otherwise practical.

The financial services sector is notoriously resistant to change, but this is not a long-term sustainable strategy. Until recently, the demographics of the active investing community hasn’t demanded much in the way of innovation. But that is starting to change. It’s slow going at first, as most millennials still don’t have the wealth to incentivize Wall Street to get with the times. But people age, and many of today’s rookie investors will be tomorrow’s whales.

Upstarts like Robinhood, Wealthfront, SigFig, Motif, and others have all entered the the market in recent years and each is offering a new and novel value proposition with the hopes of grabbing market share among Wall Street’s disenchanted. Robinhood may be the newest kid on the block, but it’s hard to argue with free – no matter what generation you’re a part of.

[ * Disclosure: Andreessen Horowitz Partners Marc Andreessen, Jeff Jordan, and Chris Dixon are individual investors in PandoDaily.]

[Image via Robin Hood, Spellbound]