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- [00:00]
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This episode is brought to you by Portrait. It's the AI research system that I used to prepare for today's episode and for all business breakdowns episodes. Portrait was built by former buy side investors and they understand great investing isn't just about having more information from low quality sources. It's about having the right information organized the right way. And if you listen to the show, you appreciate Diligence consists of many things Diving into the history of a business, framing the nuanced competitive dynamics, tracking key signposts around your thesis. And historically that would take up material time that you do not have. But Portrait is basically like adding an army of analysts to your team. It's powered by an AI system specifically designed for investment research workflows so you get nuanced idea generation. Portrait assesses the same types of qualitative attributes that we discuss on this show and that can help identify businesses which fit your frameworks. Portrait also customizes research report generation and I used Portrait to generate a primer and lay out bold bear cases ahead of today's episode to help frame the conversation. And third, there's intelligent thesis monitoring and that's where Portrait assesses thousands of data points across value chains each day, extracting the insights driving the business again. All this work would typically take hours and hours and hours. It's at your fingertips now. Visit portraitresearch.com to start your free trial today.
- [01:46]
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This is Business Breakdowns. Business Breakdowns is a series of conversations with investors and operators diving deep into a single business. For each business, we explore its history, its business model, its competitive advantages, and what makes it tick. We believe every business has lessons and secrets that investors and operators can learn from and we are here to bring them to you. To find more episodes of breakdowns, check out joincolas.com all opinions expressed by hosts and podcast guests are solely their own opinions. Hosts, podcast guests, their employers or affiliates may maintain positions in the securities discussed in this podcast. This podcast is for informational purposes only and should not be relied upon as a basis for investment decisions.
- [02:34]
A
This is Matt Russell and today we are breaking down Robinhood. My guest is Arthur Olson, founding partner at Ravenswood Partners, and Arthur educates me throughout this conversation on how Robinhood has evolved as a away from the pure pay for order model and diversified its revenue streams how product velocity is really the foundation behind everything in that continued penetration and how new talent coming into the organization has made a material difference in terms of what they would be potentially exposed to during cycles. Now please enjoy this breakdown of Robinhood All Right, Arthur, we have a topical name today in Robinhood. It's a name that's topical from a stock perspective, from what they represent to the market. I'm excited to cover it with you to kick us off. Maybe you can level set the conversation with the simplest explanation of what Robinhood is. I think we all have an idea in our head, but how would you describe it? To basically lay a foundation for the rest of the conversation.
- [03:47]
C
Thanks Matt, for having me on. Robinhood is a really interesting business. The core of the business and the way to understand it is that it is a digital broker. So that means that it exists to allow its customers to buy, sell and hold different securities. The breadth of those securities and even the account types have expanded over time as the company I think has improved and matured. But think about that broadly, as equities, as options, as crypto. What is striking about Robinhood is just how much customers love the product. It has very much been a product led growth story scaled incredibly quickly. Today it has 26 million funded accounts, making it the third largest brokerage firm in the US based on accounts behind Fidelity, behind Schwab. It has achieved that in just over a decade. So basically 1/5 of the time that it took Schwab to achieve a similar number. Our view is that Robinhood is really the broker of the future, of the next generation. And it has significant both technological and also demographic tailwinds. And we see it as the logical industry sharetaker in brokerage and associated financial services over the next 20 to 30 years.
- [04:59]
A
You laid out a lot there and normally I would get to some of the key people involved later in the conversation, but I think Vlad is key to the Robinhood story. Can we get into his journey to founding the business? I know he had somewhat of a trading background, but what went into the origin story of a digital brokerage, which didn't feel entirely new to me, we had digital brokerages in the past, so it wasn't entirely a new concept. But anything that you could tap into there in terms of the origin story and particularly Vlad, would be interesting to hear.
- [05:34]
C
We could probably spend a whole hour just talking about this. Even Vlad's childhood is fascinating. So his family immigrates from Bulgaria. He's left behind for a year or two when he's in kindergarten. He it develops this rock hard determination and grit that you see pop up at multiple times throughout Robinhood's both founding, then also their trajectory of growth as a public company. I don't think it's really well understood they've had to do a lot of really hard things. Being a tech company, innovating in financial services, which is heavily regulated, is difficult. But if we fast forward to when he and his co founder Baiju bought meat, they're both at Stanford undergrad studying mathematics and physics, both gifted. They have the misfortune of graduating, I believe in 2009. So the employment market is really bad. Baiju succeeds in getting a job at a high frequency trading firm. Vlad tries to do the same basically as an options trader. Is not successful, so goes back to Stanford to pursue a PhD in mathematics within the first year. Becomes very disillusioned with what he sees in academia. There's this reality, pure and noble desire to rethink and come up with first principle solutions to problems and a desire to touch a lot of people with those solutions. He talks about looking out to these famous mathematicians, Gauss, and studying their works and being very impressed by the idea of multiple generations working and basically learning from the insights of that one person. He wanted to do something similarly. Punchline is he wasn't getting that fulfillment in academia. So Beiju calls him up and says, hey, listen, my fund is doing well, but actually the technology is really old and I think we could start our own firm, basically mimic what they're doing, use some modern technology and be successful. They take a risk or whatever you want to call it. They start their own high frequency trading firm, they move to New York. I think by both guys admittance, it's pretty much a failure. They very quickly, within the first year pivot not to training themselves, but to selling the software that they've been building to bigger hedge funds and banks. But both of them ultimately find that somewhat unfulfilling as well. So within a year they start thinking about Robinhood. They hit it at a very interesting time. So you have three secular trends that are happening. First of all, you have the rise of electronic trading. You also have the rise of mobile. This is about 2013 is when they're coming up with the product. The iPhone is still new and it sounds crazy to us today, but the thought of trading stocks, even paying bills on your phone was crazy at the time. So they were very early to see that mobile would be the next compute iteration and where our lives would be mediated. And I think the third thing that really made the business possible in a way that others had tried commission free trading in the past and hadn't been successful. Part one of that is that they didn't have a really compelling app, but also there was this ripe environment Post GFC where you had Occupy Wall street, there was a huge erosion of trust and these legacy financial services companies and that brand equity was kind of at our all time low and it created space for these new challenger brands, Robinhood one of them and several others. That was the context. Their specific insight was when they were running the high frequency trading firm, they saw that we're trading and firms like us are trading every day, thousands of times a day, millions in aggregate, and we're not paying anything or effectively we're not being charged certainly the $10 per trade commission that the retail investors being charged. And that doesn't really make a lot of sense that the smallest investor should be charged the highest amount and that really this is rent seeking behavior that should be disrupted. The business model that facilitated that is known as payment for order flow. The broker receives a small rebate from a market maker in exchange for the right to execute that trade. Market makers like retail order flow because it's seen as non toxic, it's uncorrelated, so they pay a small rebate. This is a business model that goes back to the 80s when Robinhood was coming about. Schwab for instance, made a significant amount of money on payment for order flow. It was just that they double dipped, they got the rebate and then they charged the $10 commission. Robinhood's core conceit was they surveyed the field and saw that traditional brokerages at the time made about 30% of their revenue from commissions. And the thinking was okay, what if we can start with a clean sheet of paper and build a modern brokerage using modern technology? We run it more efficiently. We don't have a brick and mortar network, not old workflows held over from the 80s, smaller headcount and basically harvest those expense savings in order to offset basically sacrificing this 30% revenue from commissions. We'll make up the difference by volume of new customers that we acquire using that value proposal, but then also using these traditional brokerage revenue lines of net interest income, income on cash balances, on margin lending and also on subscription. The other really important half of this was having a really compelling product experience. So that was one of the big insights as well, is we need to make this product way less complex. Even if you look at the legacy broker apps today, they still very clearly are ports from web based platforms. It's grid based, a lot of dropdown menus, very clunky and you can force your way through it. But if you're a digital native customer that grew up in the era of a smartphone, you're going to naturally gravitate to Robinhood app.
- [11:08]
A
As a fellow 2009 grad, I have admiration for anyone from that vintage being a particular moment in time too, to be seeing everything going on in the financial system and to look for ways to maybe improve it or democratize it or whatever we want to call it. But if I were to just play back everything you mentioned, it really does feel like that mobile first approach stands out and it's hard to stack rank what was most important for any business because there's so many different things that go into it. Is it fair to say that that in and of itself was a major driver of their ability to get customer adoption? And not to downplay by any means anything else, but could you boil it down to the mobile first approach with everything else being that difference maker, I
- [11:56]
C
think you're 100% right of the two, both are necessary to innovate and this is a key to understanding why Robinhood won and continues to win is pretty much on every product they break down the economic side and then the product experience side and they say we want to deliver a step change improvement on both sides. Both are necessary. But to your point, the harder of those two is making a killer product that people love. And it's fascinating. Mobile super important seeing that early. One of the things they were really lauded for, which is true, is making the investing process less intimidating. And a lot of that is just a clean ui. Even the app today, it leads with big high contrast colors, charts, doesn't overwhelm you with a lot of data right off the jump. You can click through to get all the information you need, but it's ultimately very digestible for someone that doesn't live and breathe financial markets. So I think you're absolutely right. Taking down the intimidation factor was really important. One of the things Robinhood has been a master of is building great product but also cultivating a brand identity. A huge, almost existential and insurmountable hurdle for most teams would be the dynamic of when Robinhood was starting to you have to get a FINRA broker dealer license before you could start marketing and start acquiring customers. To get that license you need to have capital. You need to show the regulator you've got capital for at least a year. To get that capital you need VC funding, but what VC in the world is going to put money behind a project that has failed for other startups and you basically have no customers yet because you haven't been able to market. So super, super hard thing to bust through this chicken or egg issue and. And it really is a testament to Vlad's will. This is a guy that has just an iron will. They work through I think 75 or 100 nodes from different VCs before they finally got three yeses. And they were very innovative. They used a very innovative waitlist technique to build buzz. They had over a million pre signups before the product even went live. This is a skill set of the company that continues today. Is exactly your point. Build a great beautiful product that people love to interact with, but also wrapping a brand around that, that generates enthusiasm where customers really identify with the product. Those two things in concert with upending the economics of the industry is exactly what broke the threshold.
- [14:16]
A
Goes without saying. The name Robinhood itself holds a lot of meaning in that regard as well. And so many of those things that you mentioned are commonplace today in terms of wait lists and whatnot. But you gotta go back similarly to mobile and remember all of this was not well known in the moment. I could speak to my current Fidelity account, which the mobile experience is still a nightmare and still clearly reading off the web. There is still something there. And when you have incumbents competing against startups, you can really take advantage of that and make the most of it. I want to get into the business model which you've tapped into a little bit there. The question over, well, if they're not making money from commissions, where are they making money? And maybe we just start out with that payment for order flow. Is it possible to just walk through an example if I were to buy 100 shares of Apple or you can make up the numbers, but how the dollars exchange hands in a payment for order flow type situation.
- [15:19]
C
The way it works is I buy $100 of Apple, that order gets executed and it gets routed either to a market maker or. Or to an exchange. The market maker, let's use a name like Citadel that people know. I mean it is crazy. By the way, I just saw this stat the other day. I think Citadel Trades is responsible for over 20% of total US market trading on a daily basis. So they are just massive in scale. But the concept is that the market maker, like I mentioned earlier, values retail order flow. Their business model is buying and then reselling and turning over their book very, very rapidly. And their goal is to make an infinitesimally small profit. We're talking tens of cents per share. But when you magnify that and multiply that across so many trades, obviously in aggregate, that is very meaningful.
- [16:08]
A
20% of the volume that's a big number.
- [16:10]
C
Exactly. It's massive. So it's this dynamic where retail is getting filled at a good price and yet the market makers are able to make a significant profit. This was a point of a lot of contention and controversy about three years ago. Gary Gensler made it very much a mission to go after payment for order flow. I've looked into it. I think the reality of the matter is you look at a lot of the studies in academic literature and it's kind of a push. Half would say it can very, very slightly impact negatively execution quality. Half would say it has no impact. What's interesting and what is really unequivocal is that it is a way better deal for Robin Hood specific customers. So payment for order flow is much more efficient for small dollar trades. So if you think about the old model, you were paying, let's call it roughly $10 commission to buy and then $10 to sell. Robinhood's average account today is $10,000. Back in 2021 even, it was like $5,000. So these were very small accounts. But if you're making a $100 trade and you're paying $20 in transaction fees, you've got to earn a 20% return just to be even. And then if you take that a step higher, let's say $1,000 trade, okay, now it's a 2% hurdle. So 200 basis points of your return is chewed up in transaction fees when you look at payment for order flow. Generally speaking, I think the academic research would show that the effect on liquid names is about 1 to 2 basis points. So in that thousand dollars trade example, you're talking about 200 basis points of transaction cost lowered to 1 to 2 basis points for payment forward flow. And if you think about the coin of equivalency, it's more a rule of thumb. It's actually different for every stock. Even the volatility that day, there's a lot of different moving parts. Like around 50 or $100,000 trade is the point of equivalency where over that. So trades that are larger than that actually are more expensive using payment for order flow for the customer. And. And then trades under that are going to be cheaper. And obviously Robinhood is overwhelmingly under that.
- [18:15]
A
It makes a lot of sense, particularly with that piece of the market. And there's this discussion of increasing TAM of any type of market. And theoretically, anyone with a logical brain might see that $20 commission that they're going to have to pay on $100 trade. And no, this is A bad situation where that payment for order flow model with zero commissions is going to be net better and that might bring in new customers on top of everything else that they're offering. I'm curious, is there still the double dipping in terms of payment for order flow with the commission trades? I know pretty much everybody has free commissions now, so maybe it's not as relevant. But how dominant is that across the brokerage market?
- [18:58]
C
That is the power really. The industry has voted with their feet. I know everybody's payment for order flow with the exception of interactive brokers. And part of that is because they've got a different customer base. Small hedge funds, prop traders. But you know what, it's very interesting. So yes, the whole market has moved to payment for order flow and in that way commission free trading is no longer competitive advantage on a relative basis for Robinhood, if you go back in history. So Robinhood was founded in 2013, hit the market in 2015. Within five years it flipped the entire industry. So in 2019, Schwab made the decision of were going commission free and then literally within weeks, every other player in the space made the same decision. This ultimately crippled, for instance, TD Ameritrade, E trade. Both of those ultimately got subsumed by Schwab in the one case and Morgan Stanley in the other. But it was a point in time where many people said, okay, Robinhood is dead. That is their whole differentiation is commission free trading. The bar is now leveled. And what we saw is that they went on over the next year and a half to like 5x their customer base. So the whole industry has moved to this model. But those that thought that it would kill Robinhood misunderstood. What is the real competitive advantage here? Innovating on economics was one, but the other is the mobile experience and also the brand. The product velocity that Robinhood has been demonstrating over the last really three years, since 2022 is incredibly impressive. It's just a stroke of genius. I don't know if our listeners have watched some of their product summits. I highly suggest the most recent one, the Active Trader Summit. And it's just a masterclass in sales and brand building, going to your customers, showing them all the new product that you've built for them, and then saying, what else do you guys want us to build for you? That's not something Schwab, Fidelity, any of those guys are showing that kind of attention to the customer. This is in Vlad's DNA. This is what the VC investor said is we've never seen a CEO that's more in touch with his customer in flat 10F. The initial flywheel or the initial wedge, a decent chunk of that was payment for order flow. But now that is standard across the
- [21:05]
A
board on the customer base. You mentioned the average size of an account and that's gone up meaningfully. Is there any way to capture the quality of the account versus Interactive Brokers has many institutional or institutional like investors sitting on its platform. Then you start to move into the high net worth. What does the quality of the Robinhood customer base look like?
- [21:33]
C
This was probably the biggest unlock and when I knew we had a real differentiated view because I think it's fair to say the perception of Robinhood frankly as a company, but also their customer base is not that great to the average person. Both of those are basically misleading. So I would say people expect Robinhood to be day traders, to be unsophisticated bad investors, effectively. So there's 250 roughly trading days in the year. I think most people that I talked to at the time assumed Robinhood customers were trading at least once a day, maybe twice a day. So their number of trades per year would be 200, 300, 400. The real number is 40. They're placing 40 trades a year for a month, basically one a week. It's not the picture of this hyperactive day trader that you would think Schwab's average customer, the self directed customer trades 40 times a year. It's very, very similar. And then, okay, if you look a level deeper, you say, okay, what's the mix of those trades? Maybe it's all just crazy options in crypto. Again, I think that's the perception when you look at it. No 2/3 are vanilla equity, about one fourth are options, and then about a tenth the crypto. If you look at equity, it's overwhelmingly skews to large cap, high quality companies. Lastly, if you think about outcomes, we know roughly 85% of day traders ultimately fail. So if that was Robinhood's base, you would expect to see one a lot of churn. And then average account balances flat or probably down. And the reality is we see the opposite churn for the last two years, almost three years at this point has been about 5%. We're talking about 95% retention and that's before any net new ads. So we're talking about enterprise SaaS levels of retention. By the way, those numbers are 2 to 3 points higher than Schwab's. Average account size is 5x from kind of the lows three years ago and even from that crypto meme stock era, it's still double that level. The takeaway ultimately that we had is that functionally, Robinhood users are really no different than a Schwab user or Fidelity user in terms of the risk appetite is a generational thing. We see in terms of younger people are obviously starting to invest earlier and they also are a little bit more active. So we would expect them to be a little bit more active over time. But that's not a bad thing. The core difference is just that these people are much younger. The average customer is 35 years old, as opposed to 55 or 60 years old, which is the average for Schwab. And it sets up this really, really interesting dynamic where you realize we believe that Robinhood is going to hold on to these customers over the course of their entire life. So it's this unbelievable opportunity where you've got all these demographic tailwinds, where we really expect. So the average account balance is about $10,000 a day. We expect that to 10 to 20x over the next decade or two. Very few companies, I mean, almost none that I've ever come across have line of sight on that duration of growth. The punchline is the customers are very similar to Schwab, to Fidelity, to E Trade, just much younger. That's been a secular trend really over the last decade for boomers and even Gen X to a certain degree. Investing was kind of a midlife process. You start investing your mid-30s or 40s. And for millennials in Gen Z, we see it starting in their teens and early twenties. And Robinhood is effectively already captured that base and it's just waiting to monetize that over the next 20 plus years.
- [25:00]
A
It's definitely interesting to hear the demographics relative to a Schwab and some of those numbers, particularly on the churn or lack thereof. When you go back into that time period of the sell off, there's this natural question that pops up. Well, the last three years we've had this extensive bull market and that might continue on. No need for us to make a call on that part. But how sensitive was that? Less so from a stock perspective, because I know the narrative is going to capture more here. But from a business perspective, was it more sensitive in that era?
- [25:37]
C
That's a good question. And it gets to a point. Vlad has talked about that basically 2022. He considers it the refounding of Robinhood. The background is January 2021. You had the crescendo of the meme stock hysteria. Robinhood was forced by the central clearinghouse to effectively pull the buy button on those stocks because of a egregious capital call that was given in the middle of the night, basically demanding $3.5 billion. That was 10x any capital call Robinhood had received up until that point. They'd only raised 700 billion since inception. And that's a whole story that's just fascinating. But basically they get through that moment in time, they raise some capital in case that happens again. They get through, but they're just dragged through the mud and the media. It's the only issue that could unify AOC and 10 cruise is just excoriating Robin Hood and these abuses and collusion. Long story short, all of that was proven not to be true. It was just complying with the regulators. The reason they had to pull the buy button. You then Fast forward to 2022 and you're coming right off of that controversy into inflation ripping interest rates going up, gross stocks melting down, investors pulling money out of those stocks, putting them into yield assets. Robinhood's volumes declined by 40, almost 50%. And it was another existential moment of the business would have gone bankrupt. But are we topping out? Can we continue to grow through this? And Vlad, his insight was that the business that he founded catered to the first time investor and that was a very powerful unlock democratizing finance. But the next unlock and what would make their business much more resilient through cycle was focusing on the active trader. And these are more sophisticated traders, people that are using option strategies, multi leg option strategies that can benefit in a bull market. They can also make money in a bear market. They can also make money in a sideways and also their transaction density is higher. That was his insight and he realized okay, basically we built the product for effectively newbies and we've by accident acquired some active traders just because our fee structure is so much better and the product is a little bit better. But we were really not doing a good job serving these customers. So this is what kicked off a two year of intense product development. It kind of looks like Robinhood is working because meme stocks are working or the market is ripping. But really understanding what happened, all of the seeds were sowed two years ago. The key focus points were one, recognizing the limits of being a mobile only experience. So realizing if we want true traders, just sophisticated investors, we need to have a desktop based platform that has rich charting that's called Robinhood Legend, that launched last year but had been in the work since 2022. Number two, we need to improve the latency and Speed across a lot of the products. We need to improve the option experience. We need to expand into other asset classes that sophisticated traders care about. So futures, tax benefits, also index options. So what you've seen is really this massive increase in product velocity. If you go back from 2015 to 2021, Robinhood was putting up one big new product a year. Over the last three years, they've been putting out five big new products a year. And a lot of iterative improvements on existing ones like that actually undersells that. There have been more improvements than that. Reputation and brand follows product. So Robinhood's product has improved massively. You would not be wrong, I think in 2021 to just say, hey, Robinhood, I might want to use it. But there's a whole list of things they just don't do that I need to have my brokerage do. And they have been chipping away at that list. They're almost a complete product. Parity with a Fidelity, with the Schwab and in a lot of ways pulling ahead. So I think it's the improvement with product and we're seeing that in the reputation increasing and particularly in nps. They were scoring really badly with their active traders. Active traders now rate them higher than any other cohort within the company. NPS has improved 40%, 40 points since 2022. And overall customer NPS has improved 30 points as well. The business really has changed. The last part of this that I would point to is that the business mix has broadened quite a bit. So if you go back to 2021, transaction revenue was almost 80% of revenue. I think it was around 75%. If you look at that today, it's about 55%. What has grown in its place? Obviously transactions continue to grow, but the growth of cash sweep. So earning interest on your clients, unused cash, which is just going to continue to grow as Robinhood grows its account balances from 10,000 to 100,000 to 200,000. Also spinning up the margin lending business, getting that bigger, getting more competitive on margin rates. I think it was in 2021 they had three businesses that were doing nine figures. So $100 million revenue businesses today, that's nine. The business has diversified over time, so should be more resilient regardless of market cycle. And then also interest rate dynamic today versus 2021. The last point I would just make is that Vlad is, I think a fantastic CEO and is the heart and soul of that organization. He's the one that's driven the vision. He's also really smart in terms of bringing in industry talent, that was one legitimate shot you could take@robinhood pre2022 was it's a light offering. They're moving really fast. But you're in a regulated financial industry. You're going to make mistakes. That's going to be costly. He recognized that and brought in a whole host of financial services industry veterans. I would call out just one quickly, a guy named Steve Quirk. He's a big personality. He's featured in a lot of the events. He's just a really cool guy. He architected TD Ameritrades expansion into Active Trader and architected their acquisition of thinkorswim. So brought him in and said, hey, you know the playbook. Let's execute it here. And that was in 2022 as well. So the product's gotten better, the leadership team has gotten better, and the business is more diversified than it was in 2021.
- [31:54]
A
Best way to go after a strategy is to hire somebody that's already done it and executed on it before. I can certainly admire that if I take what you just mentioned there. I think there's a lot of public scrutiny or questioning over some of the product rollouts, whether it's options or anything that would typically have risk associated with it. To the average retail client. It sounds like this is very much for the active trader base, which in theory understands the risks and dynamics of these, understands the hedging mechanisms rather than being long, all these naked exposures. And that itself is offsetting potential risk associated with those going into it that aren't as aware.
- [32:43]
C
I think that's fair. You look at the customer outcome. So we talked about account balances roughly 5xing over the last three years. Let's make it a hard comp. Let's look at the peak in 2021. We're still 2x that level. And if you decompose the growth, it's really, really healthy. Half net new deposits and then it's half organic appreciation of the assets in the account. And what that shows you is that investors are making good decisions. Again, these are not day traders that are blowing themselves up. If they were, you just wouldn't be able to get a kind of asset growth that they're showing. And then on the other side, the really healthy net new deposits shows that Robinhood is becoming a higher mindshare. It's a platform that they want to add assets to, that they want to make a bigger part of their financial life. The proof is in the pudding in terms of their customers doing well. There's a great book. Charles Schwab wrote an autobiography called Invested. It came out in 2019 and it was fascinating to me. He disrupted the industry in 1975. They deregulated commissions and it birthed this whole industry of discount brokerage. And Schwab was the most successful. And to see the smear job and attacks that the legacy guys aimed at Schwab. It's very similar to the narratives that have been promulgated around Robinhood of a couple years ago. It was about gamification and you need to take this almost paternalistic view of the customer can't be trusted to have choice. We need to make that choice for them. A lot of those same arguments were put against Schwab and he talks about it a lot. And I think a lot of cases that's covering up for either the legacy guys want to protect rent seeking monopoly in one way or another, or it's just a lack or an inability of innovating. A lot of these legacy guys, well, we just know this are on ancient tech stacks and have grown through acquisition. So you've just got this nightmare try to integrate on the back end. One great example is crypto. Robinhood introduced crypto actually being able to buy a token itself in 2018. Fidelity was obviously slower, but in 2022 I think they launched for institutional clients and then 2023 for individual clients. Schwab still hasn't. It's coming in 2026. And you could say, well maybe that is a paternalistic view. I also think there's probably something technologically on the back end that's an issue. The success points for the customers speak for themselves. In general, it is better to empower customers with choice and variety and let them make decisions.
- [35:13]
A
It's always difficult to take a legacy incumbent's arguments against a new entrant. An outsider saying it would have validation. You always have to think with a bit of skepticism towards that. And we see it across industries.
- [35:29]
C
There's a perception that Robinhood is always pushing the envelope in terms of the riskiest things. It's actually not the case. And you look at crypto. So they were early to offer crypto. They only offered the 10 most liquid biggest names. If you look at a coinbase, they're offering 250. Now obviously that is their business. But Robinhood could have done the same but purposely held back because of regulatory uncertainty. I think that's one of the risks here is making sure that you don't put irresponsible products in front of your customers. Prediction markets is really the only one where I have even a tiny bit of a question. I think there might be a little bit of risk.
- [36:07]
A
How so? I'm very curious.
- [36:09]
C
It's more reputational. Prediction markets are super interesting. The idea of being able to express a view about a real world event and then always even more interesting is the idea of being able to harvest that data. I think this market's going to get way bigger. The thing I didn't see coming and that I don't maybe love is that sports betting has become this lightning in a bottle use case and Robinhood obviously makes that available on the app. I don't see anything wrong with that. The way I think about it is it's going to be a very small percentage of revenue even if it's very successful. We're talking about definitely sub 5%. But where I think is valuable is again providing choice to customers and each of those different assets become a different auto ramp. And it really is a customer acquis. One of the interesting things that I didn't even realize was the whole meme stock hysteria was motivated by, I don't think great investing decisions. Buying Gamestop or whatever the crazy valuation was was not a good choice in the long run. But customers came to Robinhood to do that. And 80% of the customers that came on during that year are still with the company and by all indications have become real investors. So investing as we know is very much a process of learning, of experimenting and playing. You kind of have to have some of that. But the key is to keep them in the platform and get them focused on equities and auctions, which are the real wealth builders.
- [37:30]
A
It's definitely going to remain a topic of interest. You could slice it in so many different ways, but it's interesting to hear some of the details in terms of what they've rolled out, how they've rolled out, your perception of where there is risk, where there is a very reasonable approach as it relates to sports betting. I have always been a free markets person. There is some lack of friction associated with that, which makes me a little bit uneasy, but nonetheless not for me to decide if we're to go back to now what the business looks like from revenue streams. I think you mentioned you have the payment for order flow, you have the interest income sweep. Are there any other big buckets today or potential big buckets in in the future that can materially change the profile of the business and really the size of the business be a material earnings driver?
- [38:23]
C
We expect both of the sides of Transaction and net interest income to scale with account growth. Robinhood is doing so many things at once that you have to pick what matters most. But we have followed the fintech world for quite some time and we think so Robinhood is rolling out a banking offering at the end of this year. Who's going to really ramp up next year? We think that is going to be very successful. Specifically a banking high yield savings equivalent and then also a link credit card. We think that has the potential for customers that attach to basically double arpu. So Arpu today is about $150 if you look at some comps. I think SoFi is a good comp in terms of even the strategy and the way they've executed. Robinhood is going to look like that, but they have even better cards. But you can back into $125 $150 ARPU from that banking and credit card business. The reason that we feel that they are advantaged is primarily around the engagement data. There's a war for eyeballs. We all know that. There's a consolidation of attention around a couple apps. Realistically, particularly with younger generations, if multiple financial services can be accomplished in one app, I think that's where the world is going to move to assuming product parity and assuming strong brand again, we think Robinhood is beneficiary there. But if you look amongst users, Robinhood customers spend about two hours in the app per month. That's about twice as much time as Schwab customer, is about four times as much time as Fidelity customers. But what's really interesting is it's like 5 to 10x as much time as other financial services apps, the legacy banking apps, also the peer to peer payment players, Venmo Cash app, also the Buy now, pay later players and then also these Neo banks like Achine. And we think that is very powerful. Banking is something that every consumer fintech at some point says we want to go after that, we want to try to get deposits. So we usually have our kind of on ramp initial product. The ones I just laid out, P2Pmoney transfer, buy now, pay later, sport some other form of lending and then some that are just trying to come straight out of the box as a Neo bank. And then you have brokerage. We believe brokerage is very advantaged here. One because of that engagement point. The second is its core business. So brokerage is very profitable. $150 ARPU. If you look at somebody like Cash app which we've invested in block in the past, it really came out of the gate very strong. One of the core problems was that peer to peer money transfer is a loss leader. You don't actually make money on it, you actually lose money on it. So you're fighting the more your customer uses your product, the deeper your hole is. Brokerage doesn't have that issue. One of the really important things is setting up incentives, having a war chest to fund incentives to get customers to make the right choices. The big holy grail is getting direct deposit to have customers deposit their checks on a monthly recurring basis into your account. SOFI has actually been pretty successful. They didn't have great cards and it's a real credit to Anthony Noto and that team for executing as well as they have. We see Robinhood in a position to be very generous with incentives. They've already done this on their IRA product which has been growing like a weed. And they are giving a 3% match on your annual contribution way better than anybody else in the industry. And actually going back to kind of our original frame of Robinhood disrupting based on economics and then on product, that's the economics piece in terms of being very generous on the IRA match. But then also I think they're the only retirement account that has ever received a design award. They did receive that award. We see the same framework coming in, making them successful in banking. It brings us to this question too of the gold subscription, which is another thing that smooths out the revenue profile of the business. Gold subscribers in the most recent quarter grew about 75% year over year compared to total accounts. Growing 10% is very powerful and we seek the Amazon prime model of packing a ton of value behind a very cheap, very affordable subscription as a means of consolidating in Amazon's case, spend, in Robinhood's case, consolidating your financial life. More assets on platform to take advantage of the benefits of gold. It's $5 a month, so we're talking about the price of a cup of coffee. You get industry leading yield on your bank balances. So think about it like a high yield savings account. Industry leading cash back on the credit card. So 3% across the board rewards, free market data, better margin rates. They just continue to add value here. And that's where I think the banking offerings are going to slot behind gold. Today, 13% of users are gold customers. Spotify, I think around 40% of their users are the paid tier. Our view is that gold gets to 50% penetration over time. And think about that as kind of a proxy for the savings and the banking's TAM again, this is over a decade long time horizon, but these products work better together. When you've got your savings right next to your brokerage, you've also spending out of the same account. You can track your expenses and then particularly if you let your mind run a little bit into a couple years and they're already demoing this, the AI functionality of having a copilot for your money, the insights that you get out of that scale exponentially the more assets and the more activity you're doing on platform. So we think all of that augurs very well for Robinhood. If you think about those revenue streams, we're talking about primarily net interest income on cash balances, so pseudo recurring, not transactional and then also interchange on the card which again is sooner recurring. So both of those things smooth out. On the margin revenue profile of the business.
- [44:07]
A
I didn't fully appreciate the gold subscription being that one stop shop aspiration, particularly with the banking side of things. And it all gets back to your point earlier on having that mind share and then share of financial transactions which as you evolve a business to get away from the cyclicality of that trading business or investment business, it makes a lot of logical sense and it's nice that you have a high margin trading business to fund that as an alternative to some of the others that you mentioned there. On the cost side of the equation, I can come up with an idea of this being software esque, just in the sense that you're going to have the fixed cost, but the incremental margins in theory should be impressive. But how would you capture the cost structure and anything unique about that profile?
- [44:55]
C
You're 100% right. This is one of the great attributes of brokerage, certainly for the scaled incumbents, which Robinhood isn't an incumbent, but they're certainly scaled, is that it's very high fixed cost, very low variable cost. So Robinhood has disclosed that their cost structure is 85% fixed, 15% variable. The industry is actually very consolidated. Three players control 80% of the market based on accounts. So you've got Fidelity, Schwab and Robinhood. And if you looked at the assets, not accounts, but assets even more concentrated. So it's an industry that wins itself to scale and scale advantages. And a lot of that is exactly this cost structure that we're talking about in that it costs a lot to be regulatorily compliant in KYC to do all of these things that you need to do. But the cost to facilitate 1 million accounts is not that much different from 10 million to your point in terms of what's different, it's not being suppressed today, but I think the long term steady state margins for Robinhood are significantly higher than First Schwab. Robinhood really was born in the cloud on aws and that has two principal benefits. Their competitors, mainframe based and then have been very, very acquisitive. And there's a lot of tech debt associated with that. And even with all that tech debt maintaining all those disparate databases, they've still got 50% margins. So we expect steady state Robinhood margins to look more like interactive brokers. So Interactive brokers is around 70 and their model is different. So we kind of get there for different reasons, but a lot of it is efficiency. On the cost side, Vlad has talked about a movement to real time settlement on blockchain rails via tokenization. Those transactions being 1/10 the cost of traditional transactions for Robinhood. So we'll see how that pans out from a regulatory perspective. But if that's true, that probably gets us even over 70%. But this is a business that scales really attractively today. The principal benefit, they're on aws, so it's cheaper. They also can spin up products much faster. And what we're seeing is them reinvest their structural cost advantage into top line growth objectives today. But at some point in the future that will become less important. We'll see margin scale and just for context for our listeners today, ebitda margins are low 50s and incrementally. EBITDA margin over the last four quarters has been I think 81%. So it's really impressive.
- [47:19]
A
An impressive incremental relative to the industrials that I used to cover.
- [47:24]
C
Exactly. And remember we're talking about $10,000 account balances. When you think about just how much bigger from an asset perspective this business gets, it's really impressive. Obviously revenue doesn't scale like one to one with assets. You do see a deterioration in the ROKA return on client assets. So we model that moderating over time, but it's still really, really impressive revenue growth coming in at very, very high incremental margins.
- [47:49]
A
If you did your best isolation of the most important things you track. From a growth perspective, what stands out?
- [47:58]
C
Principally we are looking at account growth over time. So we're looking at net deposits are very important. We are also looking at a non financial metric product velocity and uptake of those incremental products. The one risk that we see, or just generic risks that you see with a company like Robinhood that is this dynamic and this ambitious is a loss of focus. The way to frame this in my mind is the upside is kind of on rails. And I know that maybe that sounds crazy, but if you really look at how much customers love this company, look at how they're improving the product, it's just so clear in a year or two they're going to be so far out in front of their competitors. One thing we haven't talked about, and again it's in the early phase, but the idea of AI being a platform shift in this industry and this is again where being born in the cloud is going to be a huge advantage. You've got a sound data strategy, you can access that data. And we believe that in the next year or two Robinhood is going to start spinning up this financial co pilot that a Schwaber Fidelity is just not going to be able to offer. So I would say looking for those kind of products, continued progress there, particularly on the AI cortex side, they demoed at the last product day an AI scripting and screening tools which we think are going to be very impactful for the active investor. In general, we're looking for account growth and then we're also looking for product velocity and a retaining of key focus,
- [49:22]
A
the latter being oftentimes more difficult to track but equally important because it's a symbolic measurement of the go forward on the account side of the equation. I actually don't know if Robinhood is a global user base or if it's mostly domestic US and what that represents for them as a business. Is that a material opportunity? Just from a growth perspective?
- [49:49]
C
It's a great point and I probably should have mentioned that's one area that I think we are extremely conservative in modeling. So basically model effectively no contribution. So to answer your question, yes, it's all us. They technically have operations in the uk, but it's very, very small at this point. Historically, the history of brokerage would tell you that it's pretty hard to break into other countries. One, because the cost of dealing with all the local regulatory regimes, two, by definition all these countries are going to have fewer inhabitants than the US with smaller markets. And then three, you just see the percentage of those smaller populations that invest in stocks is way smaller. So it comes smaller tam potentially higher cost. I think that's why Vlad is so focused on using tokenization in these markets as a way to bring down the cost and therefore making expansion into these countries much more efficient than past brokerages that failed in that attempt. In our modeling, we're probably conservative on the account growth, but we have accounts going from 26 million to 40 million. So you're talking about an addition of only about 1 1/2 million accounts per year. About half of that coming from share take, half of that coming from net new to the industry, and that's a 4 or 5% CAGR. So pretty slow. The majority of our growth is driven by asset growth, existing accounts, and then monetization of these peripheral financial services. But I encourage any of our listeners that want to dig into the international opportunity, please do. And this is a perfect example. Robinhood is doing so many things, you almost have to pick your bets in terms of what you think matters. Vlad, if you hear him talk, he thinks international is a huge opportunity. So I'm probably wrong on this, but. But it's just even more upside. I don't think you need to believe you get much contribution, if anything, for this to be a blackout.
- [51:29]
A
It's difficult with this type of velocity. As you mentioned, one point you just made on that 1.5 million, half coming from taking share, half coming from net new accounts. Has the share taking or share grab been a piece of the story in recent years? Do they report that? Is there any way to measure whether that is actually something that you're seeing happening?
- [51:56]
C
When we think about share take, it really matters what age demographic we're looking at. And it's good to decompose. So if you look at Robinhood share in baby boomers and certainly silo generation, we're talking about 1% share. When you get to Gen X, share increases to about 20%, millennials over 50% market share. And then with Gen Z over 65%, if you look at Robinhood, 75% of their customers are under 45. And that ratio is flipped for all of these legacy guys. What's really interesting too is we've got the largest intergenerational wealth transfer on record that's going to be playing out over the next 15 years where basically $80 trillion is going to be passing from baby boomers to their children. The baby boomers are a majority on the legacy brokerages and all of their children who are receiving those funds are on Robinhood. It got 20% share of accounts Robinhood under earns today, so only 2% of assets. But we expect of that transfer that 80 trillion. And again, if you really cut it down, 40 trillion is investable assets. And then you can haircut that again of self directed versus assisted. But we assume Robinhood gets 40% incremental share and that alone gets you Robinhood today at about 300 billion in assets to 4 trillion over the next decade. So just massive growth.
- [53:17]
A
That 20% versus 2% is a meaningful opportunity to start to close things down. On the risk side of the equation, I think there's some fairly obvious ones, but the one that I wanted to focus on was the regulatory dynamics. Vlad has spent plenty of time with the regulators from everything in the GameStop moment, but also in terms of rolling new things out, where would you say they stand, just in terms of regulatory reputation, that relationship, it feels very important to me, particularly as the velocity of what they're rolling out is so high and they're doing so many different things. Do you have any sense of that?
- [53:57]
C
Their regulatory team is very strong. So Dan Gallagher runs their compliance and regulatory affairs. He was a former SEC chair and has become very much a thought leader. Vlad is even becoming a thought leader, particularly the area of tokenization. The Trump administration writ large, is very supportive of tokenization of crypto. Surprisingly, the EU has been as well. Again, this is all very early days, but actually trialing tokenization of equities is starting for Robinhood in the UK and in the EU as opposed to the us. It's certainly something to track, and Robinhood is going to continue to be at the forefront. Their reputation with regulators is good. Dan actually came on, I believe, in 2020 or 2021. He wasn't in that 2022 hiring phase, but I think his influence has grown. Robinhood has grown up as a company. Vlad has grown up as a company. I think the regulators recognize that as well.
- [54:53]
A
That's quite a time to join and see all of the action. He's lived through some wars, to say the least. Is there anything else that stands out to you as a major risk or thing that you would most focus on in terms of risk to the business or the stock?
- [55:10]
C
Generically, with the company this ambitious, trying to do this many things focus. If you want to be a financial analyst, you could say capital allocation. Robinhood and Vlad have earned a ton of credit, or they've proven themselves in this regard. So it's not something that keeps me up at night. Those are the problems. You want Amazon, you're going to have a fire phone every now and then. You want a company that's pushing the envelope, trying new things. And it's just such a stark contrast. If you compare what Robinhood's doing to anybody else in the brokerage space, there's really no comparison. I'm a fan of Coinbase in general, but if you compare, Robinhood is the only founder led brokerage left Schwab Fidelity. We're talking about three to four generations. They're kind of managers at this point. But Brian Armstrong is a founder and if you look at the product velocity out of Coinbase, it just doesn't compare to Robinhood. It does hammer home. Yes, this is founder led, but even amongst founders I think Vlad is very, very impressive. Has a mathematical mind also a genius of branding, a renaissance man if you will. I expect him to continue to deliver as he's built out that bench of talent around him.
- [56:14]
A
It would feel like a logical acquisition target for for some incumbents across the financial services space, not just brokerages, which from a valuation perspective would be challenging. But where does that stand just in terms of your perspective on their willingness to ever entertain an acquisition offer or something along those lines?
- [56:37]
C
I don't think there's any desire. I don't know why they would. I've never seen a company that has this an expansive view of itself and in the best possible way. It's not delusion. They're executing against it. They've earned the right. I would encourage any of our listeners that are interested to watch the Investor day from late 2024 last year and they outlined these three growth arcs of Win the active trader over the next one to two years. Use that to fund winning, wallet share with the Millennial and Gen Z. This goes to our banking discussion and the growth of gold. Looking out past that, they are for sure going to disrupt the low end of the wealth management industry. There's just no question about it. My conviction in that has grown a lot just in the last couple weeks as I've done more work there. That's another revenue stream that's going to come down the pike that using AI and then they made an acquisition of company called Trade PMR that does custody for RIAs. I think it's actually going to look very much like TurboTax and TurboTax Live. That evolution of going from DIY tax and Robinhood is basically DIY investing to a hybrid model where you still are doing most of it yourself but you have one AI helping guide you. But then also the option of if you got a tough question or you want some real advice, here's a little button up top and we're going to connect you to an actual RIA with all of those aspirations in front of them. I don't see any chance of taking an acquisition offer.
- [57:59]
A
Something told me that was the answer based on the ambitions worth mentioning one other risk.
- [58:05]
C
The reality is the stock is up 7x over the last year. Stocks can get ahead of businesses. I don't want to make a call on valuation or what makes sense, and every investor has a different time horizon. But I would just note that stocks can get ahead of businesses in the short run.
- [58:21]
A
It's always good to have that disclaimer in there. This has been fascinating. I've learned a lot more about Robinhood despite there being so much out there about them. It's deepened my appreciation and understanding of exactly what they're doing. We close out the conversation with just the lessons that you might be able to take away and apply elsewhere. Is there anything that stands out as a lesson or lessons from Robinhood that you could apply as an investor elsewhere?
- [58:47]
C
The big lesson for me is that product wins. This was an industry that was very sleepy, very comfortable and very profitable. All the VCs said, Robinhood, you're going to fail. Everybody that came before them that attempted something like this did fail. What they didn't factor in is Robinhood's attention to detail and focus on product. Customers ultimately recognize that at our firm we break up the investable universe into generational winners, which is what Robinhood would be. You've got stalwarts, which are these stable, Steady Eddie companies, and then you've got opportunistic situations where maybe it's a turnaround. That is the risk of the stalwart bucket of saying this is a really profitable monopoly and they're crushing it, which is what I'm sure people were saying about Schwab and Fidelity at one point. And you have a Robinhood that just comes up and steals the entire next generation out from under you. I think that is something that investors need to be aware of, not to write off a small competitor if the product is very strong. One thing that impressed me as I've really gone deep on Robinhood is the extreme attention to detail within that company. You pick up the app and for those that haven't used it, this sounds like a squishy competitive advantage of it just feels good, very much akin to Apple. And if you talk to people that have worked there, it's a known thing in terms of you'll have PMs and engineers that come from other fintech companies and it's literally like a six month adjustment period where they have to level up their game and realize that it's not just about pushing out a product that works. The product has to be beautiful, has to feel great. A big part of that is a large contingent of Robinhood customers or also users and or power users. Pretty much any product that they launch first gets baited within the firm for a couple of weeks and they really rip it to shreds. It is that sanding down. It is that nitty gritty detail and the push. But polish that ultimately kind of to your very original point of it's not just the economic model, it's really the product and being mobile first. That is true, and it's as true today as it was then. That attention to detail and that total empathy with the customer is really what has made Robinhood successful and will continue to make them successful in the future. Having an eye for that in a management team and a culture is super powerful.
- [61:01]
A
It's an incredible disruption story and one that we will continue to watch with the ambitions still being quite large. So thank you, Arthur. This has been a pleasure.
- [61:11]
C
Thank you.
- [61:12]
B
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