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1 Robinhood Stock That Could Crush the Market in the Long Run

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Its not the one you might think. And these charts show why.

According to WebMD, dopamine is a neurotransmitter that sends messages between nerve cells. It affects heart rate, attention, mood, and other behaviors. It gets released when we gamble and win. It feels good. 

Many critics point to that feeling as a key to Robinhood's (HOOD -3.08%) success. The trading app has become famous for turning investing into something that feels more like a casino. And that's also the reason I think the company could crush the market over the long term if it grows up.

Image source: Getty Images.

All publicity is good publicity

P.T. Barnum once said that 'the only thing worse than being talked about is not being talked about.' Robinhood has challenged that mantra. During the meme-stock frenzy of early 2021 -- when shares of GameStop soared 1,800% in a matter of days -- the app prevented users from making trades.  The actions ultimately led to a congressional hearing. It also pushed an obscure Wall Street practice to the forefront.

Payment for order flow (PFOF) is money a brokerage gets for routing its customers orders to a third party for execution. While virtually every U.S. brokerage does it, it's a windfall for Robinhood. The company calls it transaction-based revenue. For context, PFOF is banned in the U.K. and is set to be outlawed in the European Union as well. 

Data source: Robinhood. Chart by Author.

The practice is especially profitable for trades of volatile options and cryptocurrency -- Robinhood's bread and butter.

Data source: Robinhood. Chart by Author.

Act your age

The average age of a Robinhood user is 31. And half are first-time investors. It should be no surprise that a trading app that makes investing feel like gambling has spurred behavior that, well, looks like gambling. The unfortunate truth is that the company makes more money when its users behave in a risky way. So far, customers' results are mixed. Comparing their results to the S&P 500 doesn't confirm the belief that the app is doing harm. But it doesn't dispel it, either.

Data source: Robinhood. Chart by Author.

Robinhood has drawn a great deal of attention for some of the ways it triggers user behavior. Confetti falling when a trade is made, scratching cards like lottery tickets to reveal stocks and color palettes that evoke emotion are a few that are most-cited. Management did remove some practices before going public.

The casino-style behavior isn't likely to last forever. As people get older, settle down, and take on more responsibility, their financial needs change. And there is no reason Robinhood won't be the relationship these young people turn to first. CEO and co-founder Vlad Tenev said last year the company was considering offering retirement accounts. It's unclear if it could get approval. But it would be huge.  As of last year, there was more than $26 trillion in 401(k)s and IRAs combined.  

History doesn't have to repeat

Jack Bogle founded Vanguard in 1975 on the premise that investing in a low-cost index fund is the best way to build wealth over time. He's been proved right. And it makes sense to those of a generation that has seen the standard of living increase throughout their lives. But a 30-year-old in 2022 is unlikely to remember much before the dot-com bubble burst.

Today's young investors have grown up with stock market crashes, bank bailouts, rising income inequality, and celebrity wealth flaunted on social media 24/7. It's a 'have it now' generation that feels differently about legacy Wall Street brands. And Robinhood has given them an alternative. In a world where mastering behavioral psychology -- the connection between our minds and our actions -- has been the foundation of the most successful technology companies, it would make sense for the same to be true in finance. 

It hasn't had any trouble growing. It's actually done so largely through social connections versus expensive marketing. Its referral program rewards both the account holder making the referral and the person opening the new account with a share of stock. The amount is random -- between $3 and $225. It's another hit of dopamine.

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