GameStopped:

Table of Contents

I. EXECUTIVE SUMMARY ................................................................................................... 3

1. Overview ............................................................................................................................. 3

2. Summary of Committee Staff Findings ........................................................................... 4

3. Broader Implications ......................................................................................................... 5

d. Recommendations ............................................................................................................ 11

II. COMMITTEE RESPONSE TO MEME STOCK MARKET EVENT .......................... 14

III. COMMITTEE STAFF FINDINGS ................................................................................... 15

Key Finding #1: Robinhood exhibited troubling business practices, inadequate risk

management, and a culture that prioritized growth above stability during the Meme Stock

Market Event. ............................................................................................................................ 15

Key Finding #2: Broker-dealers facing the greatest operational and liquidity concerns took the

most expansive trading restrictions, although multiple broker-dealers introduced trading

restrictions for a variety of risk management reasons during the Meme Stock Market Event. 70

Key Finding #3: Most of the firms the Committee spoke to do not have explicit plans to change

their policies for how they will meet their collateral requirements during extreme market

volatility or adopt trading restrictions when market volatility may warrant their introduction.96

Key Finding #4: The Depository Trust & Clearing Corporation (DTCC) waived $9.7 billion of

collateral deposit requirements on January 28, 2021. The DTCC lacks detailed, written policies

and procedures for waiver or modification of a "disincentive” charge it calculates for brokers

that are deemed to be undercapitalized and has regularly waived such charges during periods of

acute volatility in the two years before the Meme Stock Market Event. ................................ 101

IV. POLICY RECOMMENDATIONS .................................................................................. 108

1. Understanding the Influx of Retail Traders ................................................................ 109

2. Enhancing Supervision of Retail Facing “Superbrokers” ......................................... 110

3. Strengthening Capital and Liquidity Requirements and Oversight ......................... 114

APPENDIX I: GLOSSARY ..................................................................................................... 118

APPENDIX II: HEARINGS AND LEGISLATION IN RESPONSE TO MEME STOCK

MARKET EVENT .................................................................................................................... 121

1. Introduction .................................................................................................................... 121

2. Hearing Series Overview ............................................................................................... 121

3. Key Issues ....................................................................................................................... 124

4. Proposed Legislation ...................................................................................................... 130

APPENDIX III: THE U.S. GOVERNMENT ACCOUNTABILITY ORGANIZATION

(GAO) FOUND SIGNIFICANT GAPS IN THE SEC’S OVERSIGHT OF FINRA IN

CONGRESSIONALLY MANDATED REPORTS ............................................................... 133

I. EXECUTIVE SUMMARY

1. Overview

GameStop Corporation (GME), AMC Entertainment Holdings, Inc. (AMC), and other

“meme stocks” became extraordinarily popular on social media leading into January 2021.

Institutional investors bet against these stocks, predicting they would fall in price, while retail

traders took the other side of that bet, purchasing the stocks en masse.

This trading frenzy,

collectively referred to in this report as the “Meme Stock Market Event,” drove historic market

volatility, which reached a crescendo on January 28, 2021, when the gross market value of GME

cleared in the stock market was 21,318% greater as compared to January 4, 2021.

At the height of the Meme Stock Market Event, several stock trading platforms restricted

trading on meme stocks as an emergency risk management tactic. Others suffered outages in their

technology systems due to the order volume in their trading systems. These restrictions and outages

placed downward pressure on meme stocks. The total dollar amount of GME held by Robinhood

Markets, Inc. (Robinhood)

customers decreased from a peak of $2.6 billion before the firm

enacted trading restrictions on January 28, 2021, down to $1.2 billion the next day. The total dollar

amount of AMC held by Robinhood customers decreased from $1.3 billion to $411 million in the

same time frame.

Ultimately, these trading restrictions and outages limited market access for

ordinary retail investors and undermined confidence in market integrity.

The House Financial Services Committee (Committee) held a full Committee hearing

shortly after the Meme Stock Market Event with key industry players, including the CEOs of

Robinhood and Citadel Securities, and followed up with two more full Committee hearings,

multiple pieces of legislation, and a full investigation of the Meme Stock Market Event.

The

Committee’s thorough response to the Meme Stock Market Event uncovered structural

As used in this report, the term “meme stocks” refers to several stocks that surged in popularity due to social media

discourse (See Appendix I

: Glossary for terms highlighted in this report).

In this report, we refer to the volatility experienced in the pricing and trading of meme stocks during January and

February of 2021, and the related actions taken by various broker-dealers, as the “Meme Stock Market Event.” DTCC,

NSCC Equity Clearing & Settlement Overview: Presentation to House Staff, at slide 7 (Jun. 17, 2021) (on file with

the Committee).

Robinhood Markets is the parent company of Robinhood Financial, Robinhood Securities, and Robinhood Crypto.

As used in this report, “Robinhood” most often refers to Robinhood Markets. Occasionally, taken in context,

“Robinhood” refers to Robinhood Markets and / or its affiliates in a collective sense.

Email and attachments to email from Counsel for Robinhood to Committee staff (May 20, 2021) (on file with the

Committee).

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short Sellers,

Social Media, and Retail Investors Collide (Feb. 18, 2021); House Committee on Financial Services, Virtual Hearing

– Game Stopped? Who Wins and Loses When Short Sellers, Social Media, and Retail Investors Collide, Part II (Mar.

17, 2021); House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When

Short Sellers, Social Media, and Retail Investors Collide, Part III (May 06, 2021).

deficiencies exploited by a new generation of “superbroker” retail trading platforms that have

grown in popularity amidst a surge in retail trading.

The stock market has changed significantly in recent years. Robinhood pioneered a new

business model marked by commission-free trading supported by payment for order flow (PFOF),

in which trading platforms route their customers’ orders to market making firms like Citadel

Securities for a fee.

In this business model, brokers can profit from volatility in the stock market

as increased trading activity generates more PFOF rebates. Accordingly, Robinhood and other

retail-oriented brokers are incentivized to push their customers to make as many trades as possible

through digital engagement features that include “game-like features and celebratory animations,”

lenient extension of margin trading to their customers, and increased access to fractional shares,

enabling retail traders to purchase dollar increments of expensive stocks like Amazon and

Berkshire Hathaway.

This “superbroker” business model has proliferated quickly.

The Meme Stock Market Event raises questions about how retail trading market

infrastructure currently operates and whether it is appropriately designed and regulated to

accommodate new developments. The events of January 28, 2021 exposed inadequacies in the risk

management practices of broker-dealers, concerns about the ways in which PFOF increases

complexity and potential fragility in the securities markets, and the ability of the regulators charged

by Congress to oversee financial markets to assess and correct for liquidity and operational risks.

2. Summary of Committee Staff Findings

Key Finding #1: Robinhood exhibited troubling business practices, inadequate risk management,

and a culture that prioritized growth above stability during the Meme Stock Market Event.

Examples of the firm’s problematic response to the Meme Stock Market Event include:

• Robinhood’s disproportionately high order flow and unique formula for calculating PFOF

rebates strained several market makers and introduced risk to the stock market.

Robinhood’s PFOF formula became a point of contention between Robinhood and Citadel

Securities during the Meme Stock Market Event.

• Robinhood asserted to the public and testified to the Committee that the company was

“always comfortable with [its] liquidity” leading up to its historic trading restrictions,

despite the actions undertaken by Robinhood’s executive leadership to respond to liquidity

issues it faced in the days leading up to the Meme Stock Market Event.

• Robinhood relied on incomplete statistical models for calculating its collateral obligations

leading into the Meme Stock Market Event. The company did not incorporate “best

practices” observations from the Financial Industry Regulatory Authority (FINRA) for

In this report, unless otherwise specified, references to “Robinhood” are to Robinhood Markets, Inc., and its

consolidated subsidiaries.

SEC, Staff Report on Equity and Options Market Structure Conditions in Early 2021 (Oct. 14, 2021).

improving its stress tests nor did it utilize publicly available guidance from the Depository

Trust and Clearing Corporation (DTCC) for calculating collateral obligations.

• Robinhood received a waiver of the largest component of its deposit requirement from the

DTCC. Without this waiver, which Robinhood had no control over, the company would

have defaulted on its regulatory collateral obligations. Robinhood’s Chief Legal Officer

notified senior officials at the DTCC that Robinhood could not meet its collateral

obligations before the market opened on January 28, 2021.

Key Finding #2: Broker-dealers facing the greatest operational and liquidity concerns took the

most extensive trading restrictions, although multiple broker-dealers introduced trading

restrictions for a variety of risk management reasons during the Meme Stock Market Event.

Key Finding #3: Most of the firms the Committee spoke to do not have explicit plans to change

their policies for how they will meet their collateral requirements during extreme market volatility

or adopt trading restrictions when market volatility may warrant their introduction.

Key Finding #4: The Depository Trust & Clearing Corporation (DTCC) waived $9.7 billion of

collateral deposit requirements on January 28, 2021. The DTCC lacks detailed, written policies

and procedures for waiver or modification of a "disincentive” charge it calculates for brokers that

are deemed to be undercapitalized and has regularly waived such charges during periods of acute

volatility in the two years before the Meme Stock Market Event.

3. Broader Implications

a. The Meme Stock Market Event revealed how rapid growth and innovation in

retail trading presents novel issues for market stability and orderliness that

neither the industry nor regulators have satisfactorily anticipated or addressed.

By some estimates, retail investors accounted for roughly 20% of stock market activity on

average through the first half of 2021 and up to 25% on peak trading volume days, up from 10%

over the prior year.

A significant proportion of this market activity was generated by first-time

investors.

In recent years, the number of total trading accounts has risen sharply at retail trading

focused trading platforms such as Robinhood and Apex Clearing Corporation.

Bloomberg Markets: European Open, Citadel Securities’ Mecane Says Volatility Behind Rise in Retail

Investing, Bloomberg (July 9, 2021).

Between January 1, 2015 and March 31, 2021, over half of the customers who funded accounts on Robinhood said

that it was their first broker-dealers account. A June 2021 survey from Charles Schwab found that 15% of all retail

investors who were active in 2021 began trading in 2020.

A February 2021 FINRA report found that new investors–

—those who did not own a taxable investment account prior to 2020–—were younger, more racially diverse, and had

lower incomes than the established stock market investors. FINRA reported that nearly two-thirds of the new investors

were under 45, and approximately one-third of this same group held account balances of $500 or less. Among the top

Figure 1: Total Open Accounts for Select Clearing Brokers

reasons new investors cited for opening investor accounts in 2020 were to save for retirement and the ability to invest

with a small amount of money. SEC, Form S-1 for Robinhood Markets Inc. (July 01, 2021); Charles Schwab,

The

Rise of the Investor Generation:15% of U.S. Stock Market Investors got their start in 2020, Schwab Study shows

(accessed Jun. 30, 2021); FINRA, Investing 2020: New Accounts and the People Who Opened Them (Feb. 2021);

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Sept. 20, 2021). According to

Robinhood as of September 20, 2021 27% of its customers are “racially and ethnically diverse”; FINRA,

Investing

2020: New Accounts and the People Who Opened Them (Feb. 2021).

Total open account information compiled from email correspondence and various attachment with counsels for

Apex Clearing Corporation, E*TRADE, Charles Schwab / TD Ameritrade, and Robinhood Markets. Data is non-

public information compiled specifically for the Committee and is not kept in the ordinary course of business. In this

instance, the Committee uses total open accounts rather than active accounts because different companies use different

methodologies to calculate the number of “active accounts” they list publicly. Charles Schwab and TD Ameritrade

merged in October 2020 and began integrating their customer base shortly thereafter. The number of accounts shown

here reflect the pro forma combined number of total open accounts for these companies for the periods shown. Apex

Clearing Corporation clears for hundreds of firms, primarily stock trading apps which focus on retail investors. The

4Q21

3Q21

2Q21

1Q21

4Q20

3Q20

2Q20

1Q20

4Q19

3Q19

2Q19

1Q19

4Q18

3Q18

2Q18

1Q18

4Q17

3Q17

Total Open Accounts for Select Clearing Brokers (millions)

This surge in retail trading has provided retail investors with greater access to the market.

But it also carries risks. The “superbroker” business model pioneered by Robinhood—marked by

commission-free trading, fractional investing,

gamification,

and the ability to create an account

and start trading within minutes—makes it easier than ever to participate in the stock market for

entertainment value, akin to a “high-stakes multiplayer game.”

The trends developing with new

generations of investors will most likely continue. Apex Clearing estimates that within the next 25

years, $70 trillion of wealth is expected

to transfer from Baby Boomers to

younger generations, including

Millennials and Generation Z, who are

more likely to favor stocks that are

popular on social media.

When asked about the Meme

Stock Market Event in early 2021, Apex

Clearing Corporation’s CEO, Bill

Capuzzi commented to Committee staff,

“We’ve lowered the barriers to entry.

There’s great content. We’re helping

people invest in their future. And we see

it. There’s millions more people that are

able to invest that never had a chance to

before. That is great. And that’s going to

continue and, frankly, accelerate, right? I

think the impact of social media, I think,

is going to continue to evolve. And so, if

the question is, do I think it’s going to

happen again, the answer is, yes, for

dip in Apex Clearing accounts shown beginning in early 2019 occurred after Robinhood Securities came online and

began migrating customer accounts from Apex to its own clearing broker subsidiary. Robinhood had previously

contracted with Apex to clear its trades. Total open account numbers for Charles Schwab dropped in 4Q 2021 when

its subsidiary, TD Ameritrade closed approximately 1 million accounts deemed to be inactive based upon having a $0

account balance and no transfers for 12 months prior to closing (briefing with counsel for Schwab/TDA (Feb. 14,

2022)).

Modern stock trading platforms have popularized the ability of retail investors to portion a fractional share. A

fractional share is any portion of a stock less than a complete share. Offering investing in fractional shares has allowed

retail investors to purchase a modest dollar figure in stocks like Berkshire Hathaway and Amazon, which can cost

thousands of dollars per share.

Many modern stock trading platforms such as Robinhood, Webull, and others use app designs intended to increase

consumer engagement, time spent on an investment platform, and number of trades through gamification. The

amalgamation of these features has led to criticism that gamified online trading platforms promote user engagement

by encouraging trading behavior similar to a gambling addiction. Cyrus Farivar,

Gambling addiction experts see

familiar aspects in Robinhood app, NBC (Jan. 30, 2021).

Farhad Manjoo, Can We Please Stop Talking About Stocks, Please?, The New York Times (Feb. 3, 2021).

Apex Clearing, Apex Next Investor Outlook: Q2 2021 Top 100 Stocks (accessed on Jun. 21, 2022).

ND SO

IF THE QUESTION IS

THINK

IT’S GOING TO HAPPEN AGAIN, THE

ANSWER IS, YES, FOR SURE. NO DOUBT

ABOUT IT. HOW IT’S GOING TO MANIFEST

ITSELF, I’M NOT SURE, BUT FOR SURE

IT’S GOING TO HAPPEN AGAIN.

- BILL CAPUZZI,

CEO, APEX CLEARING CORPORATION

sure. No doubt about it. How it’s going to manifest itself, I’m not sure, but for sure it’s going to

happen again.”

Retail investor trends, like stocks gaining popularity on social media, increasingly affect

the price and trading volume of securities.

This has implications for market activity, trading

infrastructure, and regulation. The full range of market participants, infrastructure providers, and

regulators that Committee staff spoke with during its investigation acknowledged this new reality.

Financial services companies that introduce new practices and innovations must carefully

assess and prepare for the potential impact and risk that such innovations pose to market integrity

and stability. Specifically, firms must rigorously evaluate how innovations will affect their ability

to meet existing regulatory requirements before introducing them and be mindful of new problems

that such innovations may cause so that they can engage in adequate and proactive risk

management.

Moreover, regulators must ensure broker-dealers properly assess and prepare for the full

implications of such new innovations. The Meme Stock Market Event demonstrated the need for

the modernization of our retail market regulatory architecture and the ways in which it anticipates,

detects, and corrects for capital, liquidity, and operational risks associated with the rapid growth

of retail trading and the technological and business model innovations facilitating such growth.

This report highlights some of these shortcomings to ensure that regulators and market participants

can address regulatory gaps and better hold individual firms to account.

b. The Meme Stock Market Event demonstrates the need for modernization of

certain key aspects of the self-regulatory framework for retail facing

“superbrokers.”

The regime of Self-Regulatory Organizations (SROs), overseen by the Securities and

Exchange Commission (SEC), will need to further evolve to fully address the risks generated by a

new generation of retail-facing, self-directed broker-dealers referred to throughout this report as

“superbrokers.” Based on the Committee’s investigation, FINRA could more adequately respond

to current market dynamics with a modernized liquidity rule. In addition, the Committee’s

investigation revealed that DTCC’s subsidiary, the National Securities Clearing Corporation

(NSCC)—which sets and enforces rules for clearing equities—engaged in insufficient monitoring

of its membership and has regularly waived certain clearing fund obligations prior to the Meme

Stock Market Event. Collectively, these regulatory shortcomings may have contributed to the lack

Interview with W. Capuzzi (Apex Clearing Corporation), at 31 (Jun. 24, 2021) (emphasis added).

Erin Gobler, What Is a Meme Stock?, The Balance (Oct. 13, 2021).

of preparedness that certain retail broker-dealers exhibited in their ability to navigate the capital

and liquidity challenges of the Meme Stock Market Event.

The Committee’s investigation found that FINRA and the SEC have limited rules focused

on liquidity management practices of retail customer-focused broker-dealers. While FINRA has

previously issued guidance on this topic, its guidance is non-binding and does not require

systematic liquidity reviews of broker-dealers. Liquidity and capitalization issues are assessed

regularly by FINRA for broker-dealers through risk monitoring policies and procedures that

inform exam planning. However, FINRA’s routine cycle examinations review capitalization and

liquidity on a case-by-case basis for individual broker-dealers and are not mandatory.

Neither FINRA nor the SEC have a standalone liquidity rule. FINRA can only require

compliance with the SEC’s net capital rule during cycle examinations, which many industry

experts whom the Committee spoke to during its investigation considered outdated. Outside of

requiring compliance with SEC rules, FINRA issues nonbinding observations relating to liquidity

during examinations. Without an updated liquidity rule from the SEC, and because FINRA does

not have its own capital and liquidity rule, FINRA lacks an adequate foundation to more fully

police the liquidity of its member firms.

Similarly, there are opportunities for the NSCC to modernize and improve how it oversees

member firms. While the NSCC maintains a system to assess the credit risk posed by its members,

including both a “Watch List” and an “Enhanced Surveillance List,” the latter category is not

clearly defined and member firms that are placed on Enhanced Surveillance are not notified of

FINRA has recognized shortcomings in this regard, including in testimony provided to the Committee by FINRA’s

CEO and President. FINRA has made preliminary efforts to address such liquidity risk management concerns by

proposing new liquidity related reporting and has indicated to Committee staff that it is considering further potential

reforms. FINRA,

Proposed Rule Change to Adopt a Supplemental Liquidity Schedule, and Instructions Thereto,

Pursuant to FINRA Rule 4524 (Supplemental FOCUS Information) (accessed on Jan. 27, 2020); FINRA briefing with

the Committee (Jan. 26, 2021); House Committee on Financial Services, Testimony of Robert W. Cook, Game

Stopped? Who Wins and Loses When Short Sellers, Social Media, and Retail Investors Collide, Part III, 117

Cong.

(May 06, 2021).

their inclusion on the list.

This lack of transparency misses an opportunity for the NSCC to

communicate to relevant member firms the need to adopt remedial measures.

Furthermore, the Committee’s investigation revealed how the NSCC has regularly waived

certain clearing fund requirements in the two years before the Meme Stock Market Event. The

NSCC regularly waives or reduces its Excess Capital Premium charges, which are the component

of a broker’s collateral charge intended to incentivize member firms to maintain an adequate

capital cushion. Excess Capital Premium charges rise exponentially the less capitalized a broker is

relative to how risky its uncleared portfolio is. The NSCC’s regular waiver and/or modification of

Excess Capital Premium charges most often benefit member firms that regularly attract these

charges.

The apparent repeated failure of Excess Capital Premium charges from deterring such

firms from accumulating excessive risk is concerning.

Furthermore, based on the Committee’s review of NSCC data, over the two years prior to

the Meme Stock Market Event, the higher the aggregate Excess Capital Premium charges assessed,

the more likely the NSCC was to waive them. While NSCC rules permit discretion in waiving or

reducing Excess Capital Premium charges, the rules contain only limited guidance detailing how

or when it is appropriate to waive or modify such charges.

This lack of detailed guidance

undermines the predictability of NSCC decision-making during exigent market circumstances,

such as during the Meme Stock Market Event, which, in turn, leads to confusion and uncertainty

amongst NSCC member firms.

Member firms are placed on the “Watch List” if their credit rating, as measured by a credit rating system specified

in NSCC rules, is assessed at a 5, 6 or 7 or if the NSCC otherwise considers that other relevant factors make a particular

member firm pose a heightened risk to the clearinghouse. See NSCC, Rules and Procedures – Rule 1

, at 21 (Jan. 24,

2022). NSCC’s credit rating system considers both “(i) quantitative factors, such as capital, assets, earnings and

liquidity and (ii) qualitative factors, such as management quality, market position/environment, and capital and

liquidity risk management.” See Id. at 5 (Jan. 24, 2022). Members placed on the Watch List may also be required to

maintain a clearing fund deposit over and above the amounts otherwise determined by NSCC procedures to safeguard

the clearinghouse from excessive risk posed by such member to the NSCC itself See Rule 2(B)€ of Id.€at 38 (Jan. 24,

2022). The Enhanced Surveillance List consists of a smaller subset of firms that are on the Watch List. See DTCC

briefing with the Committee (Sept. 14, 2022). With respect to both the Watch List and the Enhanced Surveillance List,

NSCC rules state that: “a Member or Limited Member being subject to enhanced surveillance or being placed on the

Watch List shall result in a more thorough monitoring of the Member’s or Limited Member’s financial condition

and/or operational capability, which could include, for example, on-site visits or additional due diligence information

requests from the Corporation [i.e., NSCC]. In addition, the Corporation may require a Member or Limited Member

placed on the Watch List and/or subject to enhanced surveillance to make more frequent financial disclosures,

including, without limitation, interim and/or pro forma reports. Members and Limited Members that are subject to

enhanced surveillance are also reported to the Corporation’s management committees and regularly reviewed by a

cross-functional team comprised of senior management of the Corporation. The Corporation may also take such

additional actions with regard to any Member or Limited Member (including a Member or Limited Member placed

on the Watch List and/or subject to enhanced surveillance) as are permitted by the Rules and Procedures. See NSCC,

Rules and Procedures – Rule 2(B)(e), at 38 (Jan. 24, 2022).

Committee staff recognize that NSCC has proposed rule changes to address certain redundancies in the Watch List

and Enhanced Surveillance List system.

DTCC briefing with the Committee (Jun. 17, 2021).

NSCC briefing with the Committee (Jan. 21, 2022); NSCC, NSCC Rules and Procedures - Procedure XV I.(B)(2)

(Jan. 01, 2021). Footnote 7 to Section I.(B)(2) of Procedure XV (Clearing Fund Formula and Other Matters).

c. The Meme Stock Market Event exposed weaknesses in capital and liquidity

planning and in the robustness of the technology platforms of financial services

institutions upon which the orderly functioning of the stock market relies.

Over the course of the Committee’s investigation, interviews with multiple broker-dealers

revealed considerable confusion, inconsistency, and lack of awareness amongst retail-oriented

broker-dealers as to how the NSCC collateral requirements are calculated. Many member firms

lack a full understanding of how the NSCC’s Excess Capital Premium charges are assessed.

Prominent firms, such as Robinhood, did not model for Excess Capital Premium charges as part

of their capital and collateral planning processes prior to the Meme Stock Market Event, and there

are no industry-wide best practices on how firms can ensure that they have adequate capital and

liquidity to meet NSCC margin requirements.

More worrisome, according to the NSCC, certain broker-dealers that are familiar with

Excess Capital Premium charges have decided to remain thinly capitalized and consciously risk

attracting these charges on a regular basis.

Given that the NSCC often waives these charges,

these firms may feel that they are unlikely to be seriously penalized for such risky behavior.

Finally, the Committee’s investigation discovered evidence of multiple broker-dealers,

third party clearing operations, market makers, public stock exchanges, and others suffering

technology outages during the Meme Stock Market Event. Outages are particularly concerning

among market makers, who are, by many accounts, lightly regulated and play an increasingly

significant role in executing retail trades.

There is currently no FINRA or SEC requirement for

broker-dealers to be active members of a public exchange, and on January 28, 2021, Robinhood

was not connected to the New York Stock Exchange, Nasdaq, or any other public exchange where

it could have routed customer trades for execution. Instead, Robinhood was solely reliant on its

market maker firms to execute trades, most of whom were struggling under significant operational

stress in the face of historic volume and volatility. Had the market makers Robinhood routinely

routed orders to been unable to accept its order flow, the company would have been unable to

execute trades for its customers.

d. Recommendations

Pursuant to its oversight authority, the Committee has provided a list of recommendations

for possible regulatory reforms at the SEC, FINRA, and the DTCC to increase resiliency,

transparency, oversight of, and access to, the equity markets. These recommendations reflect

recent developments in the stock market, including the influx of retail investors and the rise of

prominent “superbrokers” with millions of retail customer accounts. These potential reforms

include greater attention to the identification of potential problems that may be caused by

DTCC briefing with the Committee (Jul. 06, 2021).

Members of Congress, consumer advocates, and regulators discussed the risks associated with the concentration of

retail trading in market making firms during the Committee’s three hearings on the meme stock market event. SEC

Chair Gary Gensler raised concerns that such concentration could lead to market fragility. For additional detail, see

Appendix II

: Hearings and Legislation in Response to Meme Stock Market Event.

technological or other changes to market entry that lead to broader participation by individual

investors. Potential reforms also include alternatives to how the NSCC assesses and applies margin

charges, enhanced risk management, liquidity management and reporting requirements for

clearing brokers, and other similar measures. In summary, these recommendations include the

following:

Understanding the Influx of Retail Traders

 Congress should adopt legislation mandating key regulators, including the SEC and

FINRA, to study how existing market rules and supervision will need to evolve to

address new technological developments, including the possibility of social media

driven market activity.

 The SEC should consider ways to implement trading halts tailored to respond to

concentrated volatility in a limited number of stocks.

Enhancing Supervision of Retail Facing “Superbrokers”

 Congress should adopt legislation requiring broker-dealers that execute above a

pre-determined threshold of customer orders to establish and maintain a connection

to a public market.

 Congress should adopt legislation requiring broker-dealers that make markets and

provide liquidity to other broker-dealers, which process above a pre-determined

threshold of order flow, to be subject to Regulation SCI.

 The SEC and FINRA should enhance large, retail facing broker-dealer

examinations and mandate stress tests that focus on liquidity management,

including to account for the prospect of social media driven market volatility.

 The SEC and FINRA should introduce a requirement for clearing brokers to

establish written contingency plans to address extreme market volatility and fully

disclose both the contingency plans and any trading restrictions to the market in

real time. Such written contingency plans should be reviewed regularly by the SEC

and FINRA.

 Congress should adopt legislation that directs FINRA to conduct more thorough

supervision of the broker-dealer industry, and the SEC should conduct more

thorough oversight of FINRA’s activities and any corrective actions FINRA may

propose.

 When individual firms introduce trading restrictions, they should be required to

notify the SEC and FINRA. Once introduced, FINRA should engage in enhanced

monitoring to ensure that such trading restrictions are appropriate, tailored, and in

place no longer than necessary.

Strengthening Capital and Liquidity Requirements and Oversight

 The SEC should introduce capitalization requirements for clearing brokers.

 The SEC should introduce a liquidity rule for clearing brokers. FINRA should

establish a rules-based framework governing liquidity planning for clearing

brokers.

 The DTCC and its subsidiary, the NSCC, should revisit how it conducts

surveillance of member firms that may pose a greater risk, and FINRA should also

focus more systematically on assessing the sufficiency of clearing brokers’ liquidity

planning.

 The DTCC and its subsidiary, the NSCC, should introduce clear written policies

and procedures and establish transparency around the circumstances under which

the DTCC may waive an Excess Capital Premium charge; such decisions should be

subject to review by the SEC.

 The DTCC, its subsidiary the NSCC, the SEC, and Congress should introduce an

emergency backstop funding facility for NSCC member firms that provide

emergency liquidity to the NSCC.

II. COMMITTEE RESPONSE TO MEME STOCK MARKET

EVENT

In the week after the Meme Stock Market Event, the Committee sent document request

letters to several broker-dealers on February 4, 2021, for records and communications related to

trading restrictions, as well as each firm’s policies and procedures to respond to market volatility.

On February 18, 2021, the Committee held the first in a series of three full Committee hearings to

gather information on the Meme Stock Market Event. The first hearing featured testimony from

the CEOs of major financial services institutions involved in the Meme Stock Market Event,

including Robinhood, Citadel Securities, and Melvin Capital. The second hearing, held on March

17, 2021, featured testimony from market experts and advocacy organizations. The final full

Committee hearing on May 6, 2021, featured testimony from the SEC Chair, the CEO of FINRA,

and the CEO of the DTCC.

In addition to the three full Committee hearings on the Meme Stock Market Event, the

Committee engaged on market oversight with hearings on credit rating agencies on May 11, 2022,

and July 16, 2021, and oversight of public exchanges, including the New York Stock Exchange

and Nasdaq on March 30, 2022.

The Committee investigated the Meme Stock Market Event over the course of

approximately 18 months, conducting more than 50 interviews with 20 institutions and reviewing

more than 95,000 pages of responsive material received from stock trading platforms, clearing

brokers, regulators, social media companies, and other related parties in response to our numerous

information requests. This report comprises one part of the Committee’s response to the Meme

Stock Market Event, which included hearings and consideration of legislation addressing issues

such as gamification, short sale disclosure, payment for order flow, and other related issues (See

Appendix II: Hearings and Legislation in Response to Meme Stock Market Event).

Committee staff prepared this report to highlight the structural issues that the Meme Stock

Market Event exposed. Experts that Committee staff spoke to agreed that while aspects of the

Meme Stock Market Event were idiosyncratic, they expect market volatility driven by retail

investors empowered by technology to be a recurrent trend.

Letter from Chairwoman Waters to Walter W. Bettinger, II, CEO of The Charles Schwab Corporation (Feb. 04,

2021); Letter from Chairwoman Waters to Karl A. Roessner, CEO of E*TRADE Financial Corporation (Feb. 04,

2021); Letter from Chairwoman Waters to Milan Galik, CEO of Interactive Brokers LLC (Feb. 04, 2021); Letter from

Chairwoman Waters to Vladimir Tenev, CEO of Robinhood Markets, Inc. (Feb. 04, 2021); Letter from Chairwoman

Waters to Steve Boyle, CEO of TD Ameritrade (Feb. 04, 2021); Letter from Chairwoman Waters to Anthony Denier,

CEO of Webull Financial LLC (Feb. 04, 2021).

See Section III(3); Robinhood briefing with the Committee (Sept. 14, 2021); Letter from counsel for Robinhood to

Chairwoman Waters and Chairman Green (Sept. 20, 2021); Interview with W. Capuzzi (Apex Clearing Corporation),

at 31 (Jun. 24, 2021).

III. COMMITTEE STAFF FINDINGS

Key Finding #1: Robinhood exhibited troubling business practices, inadequate

risk management, and a culture that prioritized growth above stability during

the Meme Stock Market Event.

a. Robinhood experienced conditions that limited its customers’ ability to access the

stock market prior to the Meme Stock Market Event.

Robinhood’s unpreparedness to meet its regulatory capital obligations and the ensuing

trading restrictions on January 28, 2021,

was not the first time the company

experienced conditions that limited its

customers’ ability to participate in the

stock market. Robinhood suffered several

technological outages through 2018 and

2019 affecting millions of its

customers.

Most notably, on March 2–

3, 2020 Robinhood’s website and mobile

app shut down, locking its entire

customer base out of their accounts

during a time of historic market volatility amidst the onset of the COVID-19 pandemic.

On June

30, 2021, FINRA issued the largest fine in its history to Robinhood for the company’s March 2020

outages and for systemic supervisory failures (the “March 2020 Fine”).

Among FINRA’s

findings in the June 2021 settlement, FINRA found that Robinhood failed to supervise technology

critical to providing its customers with “core” broker-dealer services and failed to create a

reasonably designed business continuity plan.

b. Prior to the Meme Stock Market Event, Robinhood did not update its stress test used

to predict collateral obligations to clearing agencies after FINRA made an

observation to Robinhood Securities’ Chief Financial Officer that the company may

want to take a more conservative “best practices” approach to conducting stress tests.

Prior to the COVID-19 pandemic, FINRA conducted a 2019 Cycle examination of

Robinhood Securities.

FINRA’s examination program conducts periodic firm examinations,

often referred to as “cycle exams,” to ensure compliance with FINRA rules and federal securities

laws and regulations. FINRA’s cycle exams are risk-based and can vary in focus, and thus tailored

FINRA, Letter of Acceptance, Waiver, and Consent (No. 202006971201) (Jun. 30, 2021).

Id.

Maggie Fitzgerald, Robinhood to pay $70 million for outages and misleading customers, the largest-ever FINRA

penalty, CNBC (Jun. 30, 2021); Email from FINRA to Committee staff (Mar. 03, 2022).

FINRA, Letter of Acceptance, Waiver, and Consent (No. 202006971201) (Jun. 30, 2021).

Email from FINRA to Committee staff (Mar. 03, 2022).

Robinhood exhibited troubling

business practices, inadequate

risk management, and a culture

that prioritized growth above

stability during the Meme Stock

Market Event.

to the individual broker-dealer that is the subject of the examination. These examinations are

designed in coordination with the risk monitoring analysts assigned to the broker-dealer.

Risk

analysts review liquidity and capital issues as a matter of regular practice, however there is no

mandatory liquidity or capitalization review as part of routine cycle examinations; rather, such

areas may be subject to closer scrutiny if related business or financial practices, characteristics,

history, or other factors unique to the broker-dealer are identified as a source of concern.

As part of FINRA’s 2019 cycle examination of Robinhood, FINRA evaluated Robinhood

Securities’ stress tests as part of its review of the firm’s liquidity management practices. Stress

tests are simulations that broker-dealers run to approximate how they might respond in a crisis

considering any difficulty the firm might have meeting its financial obligations during periods of

severe stress. FINRA encourages firms to make use of stress tests to prevent failure of the firm

and guard against widespread systemic failure of the stock market during market turbulence.

FINRA provides limited guidance on how firms should conduct stress tests.

In April 2020, shortly after the onset of the COVID-19 pandemic, FINRA concluded its

2019 cycle examination of Robinhood Securities and communicated deficiencies and observations

to the firm. Based upon FINRA’s internal review, FINRA records show on-site and pre-exit

meetings related to the 2019 cycle exam where FINRA officials shared an observation with

Robinhood Securities regarding the company’s stress test.

Specifically, FINRA examiners made an observation regarding Robinhood’s methodology

for calculating its required collateral deposits for clearing agencies like the NSCC, the Options

Clearing Corporation (OCC), and the Depository Trust Company (DTC) used in its stress tests.

At the time, Robinhood’s stress tests used a “day zero” assumption for the firm’s collateral charges

with its clearing agencies, using whatever firm’s collateral charge from the last day of the previous

quarter and doubling that number. FINRA examiners communicated an oral observation that from

a conservative “best practices” standpoint, the company would be better served by using the peak

collateral charges and doubling that number instead.

According to FINRA’s records, Robinhood

Securities officials, including the Chief Financial Officer and the Regulatory Inquiries Manager

for Robinhood Securities, were present for discussions of Robinhood Securities incorporating their

peak clearing deposits for stress tests.

Robinhood had difficulty finding any evidence of feedback

that FINRA may have provided regarding collateral charge assumptions the company used in their

Id.

In contrast, risk monitoring analysts generally review liquidity and capital issues as a matter of regular practice.

Email from FINRA to Committee staff (Mar. 03, 2022).

FINRA, Guidance on Liquidity Risk Management Practices (Sept. 2015).

Email from FINRA to Committee staff (Jun. 21, 2022).

Email and attachments to email from representatives for FINRA to Committee staff (Jun. 20, 2022).

Email and attachments to email from Counsel for Robinhood to Committee staff (Jun. 20, 2022).

Email from FINRA to Committee staff (Jun. 19, 2022).

stress test, and commented to Committee staff that it cannot corroborate FINRA’s documentation

of these discussions.

In any event, Robinhood did not update its stress tests according to FINRA’s observation

before the Meme Stock Market Event.

In fact, Robinhood conducted a quarterly stress test

exercise in mid-January of 2021, prior to the Meme Stock Market Event using its collateral charges

from the prior quarter end rather than the peak collateral charges as FINRA staff had suggested.

FINRA’s observation would have led Robinhood to adapt a more conservative method for

conducting a stress test than the standard FINRA guidance on this matter. Taking the approach

outlined in FINRA’s observation would have been a more accurate measure of the actual highest

collateral charges the firm would be likely to be charged during periods of heightened volatility.

As a result, the stress test that Robinhood ran in January 2021, mere days before the Meme Stock

Market Event, did not more fully reflect the collateral charges with clearing agencies the firm

should have anticipated.

Any increase in Robinhood’s capital position could have had a significant impact. For

example, Robinhood’s NSCC collateral charges on December 31, 2020, the most recent quarter

end before January 28, 2021, which the firm actually used in its January 2021 stress test, was as

follows:

Figure 2: Robinhood’s NSCC collateral charges (Dec. 31, 2020)

Date

Deposit Requirement (Start of Day)

12/31/2020 $72,774,074.93

The company’s top NSCC collateral charge for 2020, a level more than four times higher,

which FINRA observed would be a more “best practices,” conservative approach

for modeling

Robinhood’s stress test, was as follows:

Figure 3: Robinhood’s highest NSCC collateral charges (2020)

Date

Deposit Requirement (Start of Day)

6/10/2020 $299,855,653.27

FINRA conducted an accuracy review of this sub-finding and confirmed that the Committee’s descriptions of events

are correct. Email from FINRA to Committee staff (Jun. 21, 2022); Briefing with counsel for Robinhood (Jun. 21,

2022); Robinhood briefing with the Committee (Nov. 03, 2021).

Email from Robinhood to Committee staff (Feb. 08, 2022)

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Dec. 15, 2021).

Email and attachments to email from Counsel for Robinhood to Committee staff (Jun. 20, 2022).

The difference between the two numbers when doubled in a stress test is nearly half a

billion dollars (approximately $140 million versus $600 million). Consider the fact that Excess

Capital Premium charges (the main contributor to Robinhood’s NSCC clearing fund requirement

on January 28, 2021) rise exponentially the less well capitalized a broker-dealer is relative to the

volatility in their unsettled portfolio. When Committee staff inquired why FINRA would

communicate its observations regarding Robinhood’s stress tests orally without making an official

written finding, FINRA responded that its practice is to only memorialize deficiencies in writing

to the firm. In this case, there was no liquidity rule, no rule violation, and the firm was in

compliance with the SEC’s net capital rule (which many experts the Committee spoke with during

its investigation considered to be outdated).

This rule framework illustrates a gap in the current supervision of liquidity planning

practices and a need to modernize the supervisory framework that applies to a new generation of

retail broker-dealers, particularly at the time of the Meme Stock Market Event.

Lacking a more

updated rule framework governing liquidity, a more conservative approach to the assumptions

used to model their clearing fund obligations at the NSCC and other clearing agencies in

Robinhood’s stress tests could have alerted the company to the need to raise additional capital

prior to January 28, 2021.

c. Robinhood relied on incomplete internal models without fully utilizing the NSCC’s

publicly available resources for modeling collateral charges, leaving Robinhood

unprepared to accurately calculate its collateral charges on January 28, 2021.

Robinhood’s CEO, Vlad Tenev, represented in Congressional testimony before this

Committee that January 28, 2021, was an “unmodellable,” “Black Swan event.”

While it is

impossible to know how the company could have reacted to the Meme Stock Market Event with

different internal processes and controls, the Committee’s investigation found that Robinhood’s

models used for calculating its clearinghouse collateral obligations in the days before the Meme

Stock Market Event were incomplete, and therefore grossly underestimated how much the

company would owe in collateral obligations on January 28, 2021.

The DTCC and the National Securities Clearing Corporation (NSCC)—the DTCC’s

subsidiary for clearing equities—serve as a central counterparty clearinghouse for the stock

FINRA has taken several actions to respond to both the volatility from the onset of COVID-19 and the Meme Stock

Market event, which includes new and revised protocols and procedures including the adoption of a Supplemental

Liquidity Schedule. However, the Committee’s investigation has also identified multiple areas in which FINRA could

conduct more thorough oversight of broker-dealers. For instance, during the course of the investigation, Committee

staff learned that the SEC and FINRA do not require firms to notify them of trading restrictions, to maintain written

plans for emergency capital raisings or liquidity arrangements, or to conduct stress tests to specifically determine

broker-dealers’ ability to offer market access to customers during periods of peak volatility.

The SEC reviewed 69 FINRA examinations from fiscal year 2021 and found numerous. Related reports have

demonstrated the SEC has been slow to implement programs that might increase the effectiveness of FINRA

supervision. For further discussion of various shortcomings with the SEC’s oversight of FINRA, see Appendix III:

The U.S Government Accountability Organization (GAO) Found Significant Gaps in the SEC’s Oversight of FINRA

in Congressionally Mandated Reports.

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide (Feb. 18, 2021).

market.

As a central counterparty, the NSCC is at the heart of processing trades in the U.S.

equities market and reduces settlement risk for both buying broker-dealers and selling broker-

dealers, each of which are NSCC member firms.

Customers execute trades through their broker,

and those brokers match trades through a public exchange like Nasdaq, a market making firm like

Citadel Securities, or another trading venue, but those venues ultimately direct all securities trades

through the NSCC for clearing.

If an NSCC member firm defaults on its obligations, the NSCC stands in the defaulted

firm’s place and delivers cash and securities to the non-defaulting members.

The NSCC requires

individual member firms to deposit collateral, or margin, to protect against the risk of a member

firm’s default.

Following the outages that occurred on Robinhood’s platform in March of 2020 (which

ultimately led to FINRA levying the March 2020 fine), Robinhood was placed on the NSCC’s

Enhanced Surveillance List.

However, in keeping with existing NSCC practices, the NSCC did

not notify Robinhood that it had been placed on this list and was now subject to greater scrutiny.

Moreover, Robinhood’s incomplete liquidity planning practices were neither detected by the

clearinghouse nor remedied despite the company being subject to enhanced surveillance.

Specifically, in addition to the problematic assumptions that Robinhood used in its stress

tests in mid-January 2021, Robinhood’s internal models used to predict its NSCC collateral

charges leading into the week of January 28, 2021, did not account for the prospect of Excess

Capital Premium charges—a significant component of the NSCC’s collateral charge regime that

applies when a broker-dealer is deemed to be undercapitalized.

As the market becomes more

volatile, and particularly as an individual broker-dealer’s uncleared portfolio becomes riskier, the

NSCC collateral deposit requirements for that individual broker-dealer increases.

In particular,

Wyatt Wells, Certificates and Computers: The Remaking of Wall Street, 1967 to 1971, Business History Review,

74 (2): 193–235 (Jan. 1, 2000); House Committee on Financial Services, Testimony of Michael C. Bodson

, Game

Stopped? Who Wins and Loses When Short Sellers, Social Media, and Retail Investors Collide, Part III, 117th Cong.

(May 06, 2021).

“Clearing brokers,” who are responsible for executing and processing trades, are members firms of clearinghouses.

“Introducing brokers,” who interface with individual clients and assist them in opening accounts, are not themselves

members of clearinghouses. Certain brokers only act as introducing brokers and contract with a third-party clearing

broker to provide clearing services. Webull is an example of a broker-dealers that acts as only an introducing broker

and, in its case, relies on a contractual arrangement with Apex to clear and process trades initiated by Webull’s

customers on its platform.

DTCC briefing with the Committee (Jun. 17, 2021).

Id.

DTCC briefing with the Committee (Jun. 17, 2021). This is also referred to as a member firm’s “clearing fund

requirement.”

DTCC briefing with the Committee (Jul. 22, 2021).

See Appendix I: Glossary for definition of “Excess Capital Premium charge”; SEC, Self-Regulatory Organizations;

Fixed Income Clearing Corporation and National Securities Clearing Corporation; Notice of Filing and Order

Granting Accelerated Approval of Proposed Rule Changes to Institute a Clearing Fund Premium Based Upon a

Member’s Clearing Fund Requirement to Excess Regulatory Capital Ratio (Sept. 15, 2006) (Release No. 34-54457);

House Committee on Financial Services, Testimony of Michael C. Bodson, Game Stopped? Who Wins and Loses

When Short Sellers, Social Media, and Retail Investors Collide, Part III, 117th Cong. (May 06, 2021); DTCC briefing

with the Committee (Jul. 06, 2021).

DTCC briefing with the Committee (Jun. 17, 2021); DTCC briefing with the Committee (Oct. 28, 2021).

the Excess Capital Premium charge Increases exponentially based upon how risky a broker-

dealer’s uncleared portfolio is deemed to be relative to its capitalization.

The NSCC assessed a $3.7 billion collateral charge to Robinhood on January 28, 2021,

based on the risk in Robinhood’s uncleared portfolio relative to the company’s capitalization. This

charge, which ultimately prompted Robinhood’s trading restrictions, had several components. The

two largest components were the Value-at-Risk charge, which totaled $1.3 billion, and the Excess

Capital Premium charge, which totaled $2.2 billion.

During interviews with Committee staff,

Robinhood officials confirmed that the company was only modeling for its potential Value-at-Risk

charge for the week of January 25, 2021.

In other words, Robinhood had no visibility into the

possibility of, much less the precise level of, Excess Premium Capital charges that it could be

required to pay during the Meme Stock Market Event.

On January 28, 2021, after learning of its collateral charge for the day, Robinhood

operational staff first accessed and utilized the publicly available formula that the NSCC uses to

calculate Excess Capital Premium charges.

Three weeks after the Meme Stock Market Event, on

February 18, 2021, the company first incorporated the Excess Capital Premium charge into a

mathematical model used to estimate when such a charge could be assessed.

Then, on May 27,

2021, four months after the Meme Stock Market Event, the firm began regularly modeling what

its Excess Capital Premium charge would be if it exceeded its net capital.

Robinhood’s Head of

Data Science confirmed that updating the models is relatively straightforward as the company uses

Excel spreadsheets to model its NSCC collateral charge rather than more sophisticated machine

learning algorithms.

Despite the acknowledged simplicity of its model and the NSCC’s public release of its

formula for calculating collateral charges, Robinhood’s Head of Data Science commented

internally that Robinhood’s collateral charges were a “black box” to him the day before Robinhood

received its historical collateral charge.

Furthermore, the NSCC neither notified Robinhood that

the firm was under Enhanced Surveillance, nor conducted any form of supervision that would have

uncovered the incompleteness of Robinhood’s calculations for modeling collateral obligations.

d. On Sunday, January 24, 2021, Robinhood leadership hesitated to model volatility

before the start of the trading week

On January 24, 2021, the Sunday before Robinhood experienced a liquidity crisis and had

difficulty in meeting its NSCC collateral requirements, a senior manager in Robinhood’s treasury

department advocated modelling the company’s collateral obligations in an abundance of

DTCC briefing with the Committee (Jul. 06, 2021).

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Sept. 20, 2021).

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Dec. 15, 2021).

Id.

Robinhood briefing with the Committee (Nov. 03, 2021).

RH_HFSC_00029119 (on file with the Committee).

caution.

Note that even with this cautious approach, its models did not account for Excess Capital

Premium charges. However, David Dusseault, President and Chief Operating of Robinhood

Financial, the subsidiary of Robinhood that operates the company’s brokerage through its app and

website, suggested that “triggers” that would make the firm react more fully to the surging

volatility going into the trading week would be “inbound from… regulators.”

Figure 4: RH_HFSC_00020687

The senior manager in Robinhood’s treasury department sent an internal message, urging

the company to not wait to run the models until trading opened the next day.

She also responded

to Dusseault, saying that she was “thinking about this from a risk perspective though you guys are

balancing many other concerns.”

e. On Monday, January 25, 2021, Robinhood focused its efforts on accommodating

rapid growth, even as it faced severe operational strain in its internal systems and

nearly missed a deadline to its options clearinghouse that would have prompted a

liquidity crisis within Robinhood.

The next day, Monday, January 25, 2021, Robinhood executives observed a sharp increase in

meme stock activity.

Gretchen Howard, Robinhood’s Chief Operating Officer commented,

“VERY high volume coming in today… Possibly Gamestop trending on twitter and wall street

bets.” Robinhood CEO, Vlad Tenev and Robinhood’s Head of Data Science agreed.

RH_HFSC_00020687 (on file with the Committee).

Id.

RH_HFSC_00020687 (on file with the Committee).

Id.

RH_HFSC_00006682 (on file with the Committee).

Id.

At the same time, Robinhood employees noticed operational concerns within the company

relative to the sharp rise in volume and warned that volume would most likely increase.

The

company’s Head of Data Science commented that the “success of GME short squeeze and people

knowing more about other short squeezes WSB (wallstreetbets) is talking about may lead to a ton

of volume in the next few weeks.”

In response, a Robinhood engineering manager responded,

“today was a huge day. There are internal things that are starting to buckle under pressure.”

As market activity increased, the company faced challenges as various systems became

overwhelmed. For example, the firm’s Automated Customer Account Transfer Service (ACATS),

which is used to transfer securities from one trading account to another, and various files and

reports, such as Robinhood’s Automated Clearing House (ACH) file, faced operational strain.

Robinhood’s Head of Data Science and his team worked throughout the week to make sure the

company’s systems remained operational.

As Jim Swartwout, President and Chief Operating

Officer for Robinhood’s clearing operation commented to his employees, the increasing volume,

to the extent it created longer delays in processing for internal systems, was unsustainable.

Figure 5: RH_HFSC_00006803

Robinhood employees were particularly worried about submitting a critical file to the

Options Clearing Corporation (OCC) on a timely basis. The OCC is a clearinghouse that provides

central counterparty clearing and settlement services for the securities derivates market.

The

OCC serves a similar role for the derivatives market as the NSCC serves in the equities market.

When calculating daily broker-dealer dealer margin requirements, the OCC permits broker-dealers

RH_HFSC_00005965 (on file with the Committee).

Id.

RH_HFSC_00006803 (on file with the Committee)

Robinhood briefing with the Committee (Nov. 03, 2021).

RH_HFSC_00006803 (on file with the Committee).

OCC, What is OCC? (accessed Jan. 27, 2021).

to offset long and short positions in the same security so as to lessen the total margin owed for the

day.

To obtain such an offset, broker-dealers must submit a file to the OCC that includes all of

its long and short positions by 9:00 p.m. EST each day.

If the broker-dealer does not submit a

request to offset securities, the OCC assumes there is no offset for each security and charges the

maximum margin. In other words, rather than long positions offsetting short positions in

calculating margin requirements, the OCC charges the full margin obligations for all the securities

in a broker-dealer’s uncleared portfolio.

On January 25, 2021, Robinhood faced operational strain on its systems used to calculate

its OCC spread file.

Given the historic volume and volatility in the markets, the OCC extended

the deadline for all broker-dealers to submit their spread file on January 25, 2021. Robinhood ran

various models to estimate its OCC obligations if it missed the extended deadline to submit its file

to the OCC.

On the night of January 25, 2021, Robinhood Securities’ Senior Director of Clearing

Operations estimated the OCC’s requirement to be approximately $1.6 to $1.9 billion if the

company was unable to submit its spread file by the deadline. He also advised that missing the

OCC deadline would almost certainly prompt a regulatory investigation of the firm.

Figure 6: RH_HFSC_00029036

Robinhood employees continued to work throughout the day to address the delays in its

systems used to calculate its OCC spread files. The company’s executive leadership, including Jim

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021).

Id.

OCC, OCC Rules - Rule 1306 (accessed Jan. 27, 2022).

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021).

Id.

RH_HFSC_00029036 (on file with the Committee).

The original chat message was edited by its author to change the word “shorts” to “spreads” in the second sentence

of the message. Id.

Swartwout and Gretchen Howard, expressed concerns about the impact of missing the OCC

deadline for submitting the spread file would have on the firm’s liquidity.

Figure 7: RH_HFSC_00006804

As Robinhood operational staff raced to meet the OCC’s deadline to avoid a liquidity crisis,

Robinhood’s executive leadership held an all-hands meeting and asked operational staff to discuss

ways to handle Robinhood’s rapid growth during the rising volatility, which many in the company

saw as a commercial opportunity.

Prior to the meeting, Jim Swartwout commented to a Clearing

Operations Manager at Robinhood Securities that perhaps instead of discussing ways to facilitate

the company’s rapid growth at the upcoming meeting, he should instead discuss all of the things

his team was doing to “keep the lights on” amidst the week’s spiking volatility.

Figure 8: RH_HFSC_00006669

RH_HFSC_00006804 (on file with the Committee).

Id.; RH_HFSC_00007056-57 (on file with the Committee).

RH_HFSC_00006669 (on file with the Committee); RH_HFSC_00028837 (on file with the Committee);

RH_HFSC_00029126 (on file with the Committee).

RH_HFSC_00006669 (on file with the Committee).

Id.

In response, the Clearing Operations Manager commented that Robinhood doesn’t handle

scale well, to which Jim Swartwout responded, “That is probably the biggest understatement of

the day….”

Figure 9: RH_HFSC_00006669

The Clearing Operations Manager further commented that she was struggling to understand

why the company should be discussing how to absorb further growth when “things are barely being

held together. Is there a focus I’m missing here?” She felt the company’s product team might be

better able to put a positive spin on the situation, but from an operational perspective, Robinhood

had failed its obligation to fully service its customers by struggling to complete its operational

obligations.

Figure 10: RH_HFSC_00006669

Id.

The OCC extended its deadline on the night of Monday, January 25, 2021 for Robinhood

and others, and extended the deadline by 60 to 90 minutes every other night of that week due to

the heightened volatility.

Robinhood was ultimately able to work through its system issues and

submitted its spread file to the OCC shortly before the extended deadline.

In communication

with Robinhood’s Head of Engineering after the company successfully submitted its file to the

OCC, Gretchen Howard commented, “Made it with 1 minute to spare!!!”.

Robinhood’s OCC collateral requirement was $92 million on January 25, 2021, rather than

the estimated $1.6 to $1.9 billion charge.

Robinhood employees ended the day aware that further

market volatility was likely,

Throughout the evening and into the night, Jim Swartwout remained

wary of regulatory scrutiny.

While Robinhood employees were relieved to have submitted their

OCC spread file on time, Swartwout remained cognizant of other operational difficulties that might

concern regulators and communicated such concerns to Gretchen Howard, including FINRA’s

concerns with Robinhood’s ability to continue processing fractional shares.

On the evening of

January 25, 2021, the company’s Head of Data Science warned that the company should not rule

out higher volume days for the rest of the week and suggested considering contingencies if

Robinhood missed the OCC’s deadlines in the future.

f. On Tuesday, January 26, 2021, Robinhood employees observed a historic spike in

trading activity on their platform following a tweet about GameStop posted by Tesla

CEO Elon Musk.

On Tuesday, January 26, 2021, employees at Robinhood continued to monitor market

activity and observe volume and volatility.

100

Popular momentum behind meme stocks continued

to increase, and at 4:08 p.m. EST, Tesla CEO Elon Musk tweeted “Gamestonk!!” with a link to

the wallstreetbets subreddit.

101

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021).

RH_HFSC_00007056-57 (on file with the Committee).

Id.

Letter from counsel for Robinhood to Committee staff (Nov. 04, 2021).

RH_HFSC_00005969 (on file with the Committee).

RH_HFSC_00011695 (on file with the Committee).

Id.

RH_HFSC_00005969 (on file with the Committee).

100

Id.

101

Elon Musk (@elonmusk), Twitter post (Jan. 26, 2021, 4:08 p.m.) (accessed Jan. 27, 2022).

Figure 11: Twitter post from Elon Musk (@elonmusk)

102

As Robinhood employees monitored the number of customers applying to open an account

on their trading platform, they observed a historical spike directly following Mr. Musk’s tweet.

103

A product manager flagged the acute increase in activity internally.

104

102

Id.

103

RH_HFSC_00028836 (on file with the Committee); RH_HFSC_00028837 (on file with the Committee).

104

RH_HFSC_00028836 (on file with the Committee).

Figure 12: RH_HFSC_00028836

105

The same product manager commented, “we could probably interact with this movement

to promote RH growth,” to Robinhood’s Head of Data Science as they considered interacting with

the market activity to promote firm growth and reminding Robinhood customers that GME was

one of the stocks the company gave away as a free referral stock earlier in the company’s history.

106

105

Id.

106

RH_HFSC_00028837 (on file with the Committee).

Figure 13: RH_HFSC_00028837

107

On Tuesday, January 26, 2021, Robinhood once again faced system delays that threatened

its ability to submit its OCC spread file before the deadline. As Robinhood employees implored

the OCC for another extension of the deadline, senior leadership grew increasingly worried about

the impression the company’s recurring systems delay would leave with the clearinghouse. Jim

Swartwout texted Gretchen Howard on the afternoon of January 26, 2021, to say that if OCC

granted Robinhood another extension on submitting its spread file, the clearinghouse “may follow

up with why we needed it though. Which would not be good.”

108

107

Id.

108

RH_HFSC_00011697 (on file with the Committee).

g. On Wednesday, January 27, 2021, as Robinhood employees began to create trading

restrictions to slow volatility on their platform, they also sought to conceal the reasons

for implementing such restrictions from their customers and the public, even as they

feared restrictions could cause the market to crash.

On the morning of January 27, 2021, Robinhood employees continued to monitor market

activity and observe volume and volatility.

109

Vlad Tenev was concerned going into Wednesday,

January 27, 2021, about the company’s ability to maintain adequate liquidity as expressed to the

company’s Chief Financial Officer, Jason Warnick.

110

Figure 14: RH_HFSC_00007154

111

In interviews with Committee staff, Robinhood executives could not recall with specificity

when the idea of creating position limits for certain volatile stocks first arose.

112

Robinhood

employees worked to slow the velocity of trading within their platform.

113

Several different ideas

were discussed, but at first, position limits became the favored method to slow trading velocity.

109

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021).

110

RH_HFSC_00007154 (on file with the Committee).

111

Id.

112

Interview with J. Swartwout (Robinhood) (May 05, 2021); Interview with G. Howard (Robinhood) (May 11, 2021).

113

RH_HFSC_00015755-69 (on file with the Committee).

Position limits limit the total number of stocks each customer can own in certain volatile stocks,

as compared to position closing only (PCO) restrictions, which prohibit customers from purchasing

certain stocks altogether.

114

Robinhood’s Head of Data Science expressed concerns that PCO

restrictions would look bad for the company, and also raised concerns that given the size of the

company, Robinhood placing PCO restrictions on specific symbols could trigger a market crash

in certain stocks.

115

Robinhood’s Head of Market Operations also expressed concern that PCO

restrictions could move the market given that Robinhood customers accounted for more than 10%

of the market.

116

Figure 15: RH_HFSC_00029118

117

As Robinhood employees worked through Wednesday, January 27, 2021, to code position

limits for meme stocks, they struggled with how to frame the trading restrictions to the public and

seemed to want to avoid giving their own clients the real reasons for imposing restrictions.

118

product manager at Robinhood Financial asked, “Do we have a customer facing rational we can

114

RH_HFSC_00015755-69 (on file with the Committee)

115

RH_HFSC_00029118 (on file with the Committee).

116

RH_HFSC_00041948 (on file with the Committee).

117

RH_HFSC_00029118 (on file with the Committee).

118

RH_HFSC_00015750 (on file with the Committee); RH_HFSC_00015751 (on file with the Committee).

provide?”

119

In response, a manager in Robinhood’s brokerage responded, “The real reason is firm

risk and us needing to control the velocity of trading. …But we shouldn’t expose that.”

120

The

product manager agreed.

121

In a discussion between Robinhood’s Head of Data Science and the manager in the firm’s

brokerage, the two employees considered ways to reduce trade volume on the night of Wednesday,

January 27, 2021, and weighed concerns about growth versus risk management, and seemingly

placed increasing growth above prudential concerns.

122

119

RH_HFSC_00015750 (on file with the Committee).

120

RH_HFSC_00015751 (on file with the Committee).

121

Id.

122

RH_HFSC_00029126 (on file with the Committee).

Figure 16: RH_HFSC_00029126-7

123

RH_HFSC_00029126-7 (on file with the Committee).

h. Robinhood operational employees exhibited a general lack of awareness of the NSCC’s

collateral charge formula during the Meme Stock Market Event.

Despite years of operating their own clearing operation, during this period Robinhood

employees remained unaware of how the NSCC calculated its collateral charges and the

implications for the company’s operations. As employees contemplated ways to mitigate risks with

the rising market activity on the night of January 27, 2021, the Head of Data Science commented

to other Robinhood employees that the NSCC’s collateral charges seemed like a “black box” as

the company worked to understand the implications of the volume and volatility in the markets.

124

Figure 17: RH_HFSC_00029119-20

125

The company’s Head of Data Science was not the only senior Robinhood employee with

limited knowledge of how the NSCC calculated its collateral charges. The night before the January

28, 2021, trading restrictions, Robinhood’s Head of Market Operations and Robinhood’s Director

of Account Operations discussed efforts to create position limits to reduce the number of shares in

volatile stocks Robinhood customers could purchase.

126

While discussing the need to reduce

trading activity on the platform, the two senior Robinhood Financial employees expressed surprise

about the existence of what they referred to as NSCC “risk fees.”

127

124

RH_HFSC_00029119 (on file with the Committee).

125

RH_HFSC_00029119-20 (on file with the Committee).

126

RH_HFSC_00041943 (on file with the Committee).

127

RH_HFSC_00041945 (on file with the Committee).

Figure 18: RH_HFSC_00041945

128

Id.

Robinhood employees ended January 27, 2021, aware of historic volume and volatility in

meme stocks and commented on the irony of the difference in public perception of the company

relative to the operational concerns within the company. Despite the operational and liquidity

concerns Robinhood had been facing all week under larger volumes than during the volatility

caused by the onset of the COVID-19 pandemic, public perception was fine even though the

company was “on the edge.”

129

Figure 19: RH_HFSC_00041952-4

130

129

RH_HFSC_00041953-54 (on file with the Committee).

130

RH_HFSC_00041952-4 (on file with the Committee).

i. Robinhood’s disproportionately high order flow and unique formula for calculating

PFOF rebates strained several market makers and introduced risk to the stock

market.

Commission-free trading, which Robinhood popularized, relies heavily on market making

firms such as Citadel Securities and others. Market maker firms are firms that stand ready to buy

or sell securities from broker-dealers at publicly quoted prices.

131

Market makers are usually able

to profit by selling orders for more than they purchased them. Market makers benefit from high

volume and usually pay broker-dealers rebates for customer orders as a way to attract orders, a

practice referred to as payment for order flow (PFOF).

132

The Meme Stock Market Event

demonstrated the critical role that market makers play in retail trading, and exposed a lack of

131

SEC, Executing an Order, Investor.gov (accessed Feb. 1, 2022).

132

Id. See Appendix I: Glossary for definition of “market makers.”

regulatory controls related to critical operations resulting in inconsistencies in how various

organizations planned for, reacted to, and were ultimately impacted by the Meme Stock Market

Event.

While virtually all commission-free retail trades are routed through market makers,

Robinhood’s relationship with its market makers leading up to January 28, 2021, was distinct in

several ways. One way Robinhood stands out is the number of trades that its customers make on a

regular basis. Robinhood generates revenue on every customer trade and is incentivized to push

their customers to trade as much as possible. To this end, the company popularized commission-

free trading to reduce barriers to entry for the stock market. Furthermore, the company has

historically had a lax policy for allowing young traders to trade on margin (buying stocks with

borrowed money) and famously employs digital engagement tactics, such as celebratory

animations and game-like features, to increase customer activity on its platform.

133

In the first quarter of 2020, Robinhood users “traded nine times as many shares as

E*TRADE customers, and 40 times as many shares as Charles Schwab customers, per dollar in

the average customer account.”

134

Despite several major broker-dealers, such as Charles Schwab

and E*TRADE, eliminating trading commissions in recent years, Robinhood still generated

significantly more total orders relative to others in the industry leading up to the Meme Stock

Market Event.

135

Virtu Financial (Virtu), a market maker firm that provides liquidity in stocks and exchange

traded products for over 240 broker-dealer clients, commented to Committee staff that it received

more customer orders per day from Robinhood leading up to the Meme Stock Market Event than

the rest of its clients combined.

136

Virtu told Committee staff that during the week of the Meme

Stock Market Event, the order volume it received from Robinhood increased six times from the

prior week in GME, AMC, BlackBerry Ltd. (BB), Koss Corp. (KOSS), Bed Bath & Beyond Inc.

(BBBY), and Nokia Corp. (NOK).

137

133

Nathaniel Popper, Robinhood Has Lured Young Traders, Sometimes With Devastating Results, The New York

Times (July 8, 2020).

134

Id.

135

Kyle Woodley, Schwab, TD Ameritrade, E*Trade, Fidelity Go Commission-Free (Oct. 10, 2019).

136

Virtu briefing with the Committee (Jan. 18, 2022).

137

Id.

Another way that Robinhood stands out from other broker-dealers is the way in which it

calculates PFOF rebate rates that it receives from market makers. Most other broker-dealers

calculate PFOF rebates as a flat fee per share, whereas Robinhood calculates PFOF rebate rates

based on the spread between the

purchase and sale price of each

security at the time of executing a

trade on behalf of a customer.

138,

139

During periods of acute

volatility, such as during the Meme

Stock Market Event, when

significantly more market

participants were buying meme

stocks than selling them,

Robinhood’s formula results in

disproportionately higher rebate

rates. Citadel Securities employees

estimated that the PFOF rebates it

owed Robinhood for GME the

week of January 28, 2021, were

approximately 60 times greater

than the week before.

140

employee for Citadel Securities

described Robinhood’s PFOF

rebates as a runaway freight train

in the days leading up to January

28, 2021.

141

Citadel Securities provided equities execution services for approximately 160 broker-

dealers on January 27, 2021—of those, only Robinhood calculated its PFOF rebate rates using a

formula based upon the bid-ask spread of each stock.

142

Analysts speculate that Robinhood relies

on a spread-based formula to maximize the revenue it generates from PFOF rebates.

143

discussed further in this section, Robinhood’s proprietary formula for calculating PFOF became a

138

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021).

139

Morningstar, Bid-Ask Spread (accessed on Mar. 11, 2022). The bid-ask spread of a security is commonly used to

measure how much liquidity is available for that security. The bid is the price a buyer is willing to buy a stock for,

and the ask is the price at which a seller is willing to sell the stock for. In order to meet in the middle and achieve an

agreement on price, the seller receives the lower price, and the buyer receives the higher price. When a stock is widely

available and most market participants agree on the price, the spread is negligible.

140

Citadel Securities briefing with the Committee (Nov. 03, 2021).

141

Id.

142

Email from counsel for Citadel Securities to Committee staff (Nov. 30, 2021).

143

Tomio Geron, Data shows how Robinhood makes more money from its users than other brokers, Protocol (Jul. 15,

2021).

ITADEL

ECURITIES EMPLOYEES

ESTIMATED THAT THE PFOF REBATES IT

OWED ROBINHOOD FOR GME THE WEEK OF

JANUARY 28, 2021 WERE APPROXIMATELY

60 TIMES GREATER THAN THE WEEK

BEFORE. AN EMPLOYEE FOR CITADEL

DESCRIBED ROBINHOOD’S PFOF REBATES

AS A RUNAWAY FREIGHT TRAIN IN THE DAYS

LEADING UP TO JANUARY 28, 2021.

point of contention between Robinhood and Citadel Securities the night before Robinhood’s

historic trading restrictions on January 28, 2021.

144

Another significant factor affecting Robinhood during the Meme Stock Market Event was

the limitation on its ability to access the shares needed to fulfill the purchase orders of its

customers. Robinhood relied upon only six market makers to fulfill its equities orders and did not

belong to any public exchanges, such as the New York Stock Exchange (NYSE) or the Nasdaq

Stock Market, where it could fetch from a deeper, more liquid source.

145

Exchanges have

significantly more market participants from whom to obtain stocks than market making firms.

Most broker-dealers are connected to at least one if not more public exchanges. For example, Apex

Clearing Corporation, a similarly situated clearing broker, was connected to NYSE, Nasdaq, the

Miami International Securities Exchange (MIAX), the Chicago Board Options Exchange (CBOE),

and other public exchanges during the Meme Stock Market Event.

146

In Robinhood’s business model, market makers pay broker-dealers PFOF. Public

exchanges charge broker-dealers a membership fee and an access fee for consuming liquidity from

the exchange; they pay rebates for brokers who provide liquidity to the exchange.

147

One of

Robinhood’s primary marketing points is that it does not charge its customers a commission on

trades. To make up for lost revenue, Robinhood relies on PFOF, which has become a primary

source of its revenue.

148

As a result, Robinhood did not initially become a member of a public

exchange, relying instead on market makers to fill its orders.

Due to its business model, Robinhood was unable to route trades directly to any public

exchange and had fewer options than other similarly situated broker-dealers for executing trades

for their customers and was limited to transacting with six market makers during the Meme Stock

Market Event. Robinhood needed at least one of the six to remain fully operational, so that it could

execute trades on behalf of their customers. In April 2021, four months after the Meme Stock

Market Event and after three years of operating a clearing subsidiary, Robinhood became a

member of Nasdaq.

When Committee staff inquired about Robinhood’s business decision to operate a clearing

subsidiary for three years without connecting it to a public exchange, representatives for

Robinhood replied, “(h)aving a public exchange connection is not a regulatory requirement.”

149

Furthermore, according to the company, both FINRA and the SEC have been aware for years that

144

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021); Citadel Securities briefing with the Committee (Nov.

03, 2021).

145

Id.

146

FINRA, Apex Clearing Corporation, BrokerCheck (2022); SEC, Market Centers: Buying and Selling Stock (Oct.

15, 2012).

147

17 C.F.R §242 (2005).

148

Tomio Geron, Data shows how Robinhood makes more money from its users than other brokers, Protocol (Jul. 15,

2021).

149

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Feb. 4, 2022).

Robinhood did not connect to an exchange and did not raise any potential concerns during any

examinations or investigations.

150

In comparing their clearing operation to their competitors, many of whom maintain

numerous connections to public exchanges, Robinhood told Committee staff that competing

clearing brokers “typically would have been established many years ago before the recent, rapid

evolution of securities trading in the U.S. markets,” and added that Robinhood Securities was

“proud to be the only clearing system … built from scratch on modern technology in the past

decade.”

151

As a result, during the Meme Stock Market Event, when multiple market makers were

facing severe operational constraints, Robinhood was wholly reliant on its market makers to

execute trades for their customers. The NYSE commented to Committee staff that while it is

common practice for broker-dealers to route primarily to market makers rather than public

markets,

152

many institutions prefer to route trades to public exchanges during periods of acute

volatility and erratic price fluctuations in the market.

153

On the evening of January 27, 2021, Jim Swartwout and his team were in frequent contact

with the market makers the company routinely routed orders to.

154

While Swartwout’s direct

reports led most of the conversations, they provided Robinhood executives critical updates.

155

Gretchen Howard, Robinhood’s Chief Operating Officer, who described her role to Committee

staff as being like a “train conductor” across the entire company, alleged to Committee staff that

the morning of January 28, 2021 was a blur and she could not recall with specificity any updates

she received on various market makers the company interacted with during the Meme Stock

Market Event.

156

On January 28, 2021, Robinhood routed orders to six market makers for equities: Citadel

Securities, G1 Execution Services, Morgan Stanley & Co., Two Sigma Securities, Virtu, and

Wolverine.

157

Robinhood uses a smart order router, which is unique among broker-dealers.

Robinhood’s smart order router estimates the likely execution quality offered by each venue for

specific stocks and order sizes on an order-by-order basis and based on historical performance.

158

The company can manually adjust who it routes orders to and made several manual adjustments

during the Meme Stock Market Event to provide relief to its market makers who were having

trouble fulfilling all its orders.

159

150

For discussion of concerns regarding FINRA’s supervision of the securities industry, see Appendix III.

151

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Feb. 4, 2022).

152

Virtu briefing with the Committee (Jan. 18, 2022).

153

The New York Stock Exchange briefing with the Committee (Oct. 19, 2021). See Appendix I: Glossary for

definition of “lit exchange”.

154

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021).

155

Interview with G. Howard (Robinhood) (Robinhood) (Jan. 07, 2022).

156

Id.

157

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021); Letter from counsel for Robinhood to Chairwoman

Waters and Chairman Green (Feb. 4, 2022).

158

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Feb. 4, 2022).

159

Id.

Throughout January 27 and 28, 2021, several of the market makers Robinhood routinely

routed orders to struggled with operational constraints. Routing trading information generates vast

quantities of data, especially during periods of volatility. Given the extraordinary volatility of

meme stocks, NYSE and other exchanges imposed trading halts numerous times throughout

January 28, 2021.

160

When an exchange halts a stock, no one is allowed quote the stock, including

market makers and broker-dealers that internalize trades. The operational and data constraints of

imposing and lifting continuous trading halts throughout the day and otherwise handling

exceptional volumes of volatile securities generated more activity at various market maker firms

than their computer systems could safely handle.

161

Robinhood’s market makers had been struggling to accommodate the acute market

volatility prior to January 28, 2021. On January 27, 2021, Virtu sent an email to all its broker-

dealer clients asking Robinhood and others to route away all equities that began with the letter “A”

except for AAPL, AMD, and AMZN.

Figure 20: RH_HFSC_00043395

162

Virtu partitions certain of its systems used to process orders into 26 ranges or stripes, which

serve as a kind of virtual servers.

163

The range used to process “A” trades suffered operational

160

RH_HFSC_00012456 (on file with the Committee); RH_HFSC_00017639 (on file with the Committee).

161

Id.

162

RH_HFSC_00043395 (on file with the Committee).

163

Virtu briefing with the Committee (Jan. 18, 2022); RH_HFSC_00045005 (on file with the Committee).

strain and delays in its system on January 27, 2021, in the face of “significantly increased order

flows and trading halts” required under the Regulation NMS Limit Up Limit Down Plan by various

venues such as the NYSE in AMC for brief stretches in the morning and afternoon.

164

Virtu

employees decided to close the “A” range at approximately 3:40 p.m. EST for all of its clients on

the afternoon of January 27, 2021.

165

Virtu represented to Committee staff that the company closed

its “A” to “ensure clients’ orders would not be impacted in the event Virtu experienced additional

system delays going into the close of trading for the day.”

166

Virtu’s request to route trades away was far from the only operational concern presented

to Robinhood Securities during the Meme Stock Market Event. Many venues requested Robinhood

route certain orders away on January 27 and 28, 2021 and at certain points, market makers

requested Robinhood route away all orders. Jim Swartwout commented to Committee staff that

during certain periods of the Meme Stock Market Event, only two of Robinhood’s market makers

for equities were accepting orders.

167

On January 27, 2021, Robinhood Securities temporarily

stopped routing certain equity orders to Two Sigma and Virtu and temporarily stopped routing

certain options orders to Morgan Stanley & Co.

168

The next day, on January 28, 2021, Robinhood

Securities temporarily stopped routing equity orders to Wolverine and reduced equities order flow

to G1 Execution Services; temporarily stopped certain equity orders to Two Sigma Securities and

Virtu; and temporarily stopped routing certain options orders to Morgan Stanley & Co.

169

164

While Virtu’s “A” range was experiencing operational strain, AAPL, AMD, and AMZN all have their own server

partitions. RH_HFSC_00045005 (on file with the Committee).

165

Virtu briefing with the Committee (Jan. 18, 2022).

166

Email from representative for Virtu Financial to Committee staff (Jun. 19, 2022).

167

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021).

168

On January 27, 2021, Robinhood Securities (RHS) stopped routing NLSP equity orders to Citadel Securities; RHS

stopped routing AAL, AAPL, AMC, AMD, ARKK, BA, BB, BNGO, CCIV, and CTRM equity orders to G1X

Execution Services and KSTR option orders to Global Execution Services before temporarily turning off equity order

routing to G1X; RHS stopped routing AMC, GME, and NOK option orders to Morgan Stanley & Co.; RHS

temporarily stopped routing equity orders to Two Sigma Securities; RHS temporarily stopped routing AMC equity

orders to Virtu Americas (Virtu). Thereafter RHS again stopped routing AMC equity orders to Virtu before turning

off equity order routing to Virtu. RHS also stopped routing “A” (except AAPL, AMD, and AMZN) equity orders to

Virtu. Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Feb. 4, 2022).

169

On January 28, 2021, RHS stopped routing OPTT option orders to Citadel; RHS stopped routing equity orders to

G1X. That evening RHS restored routing equity orders to G1X with reduced equity flow by 50%; RHS temporarily

stopped routing option orders and thereafter stopped routing BBBY and EXPR option orders to Morgan Stanley; RHS

temporarily stopped routing equity orders to Two Sigma on two different occasions; RHS restored equity order routing

to Virtu (which had been turned off on January 27, 2021, as noted above) and stopped routing NAKD, NOK, and

NSLP equity orders to Virtu; RHS stopped routing ACST, AMC, ATOS, AVGR, AZRX, BB, BIOL, BNGO, BRK.A,

CCIV, EXPR, GME, GRTS, GSAT, JAGX, KOSS, LLIT, NAKD, NLSP, NOK, OCGN, OXBR, SENS, SYN, and

ZOM equity orders to Wolverine. RHS also temporarily stopped routing equity orders to Wolverine before ultimately

turning off routing equity orders to Wolverine. Letter from counsel for Robinhood to Chairwoman Waters and

Chairman Green (Feb. 4, 2022).

j. Robinhood threatened to terminate their business relationship with a market maker

that wanted to limit order flow during the Meme Stock Market Event due to

“regulatory and financial risk.”

Wolverine Execution Services (Wolverine), a market making firm headquartered in

Chicago, Illinois, emailed Robinhood on Monday, January 25, 2021, to notify Robinhood of issues

executing trades and “an extremely high number for quoted spread” on GME based upon

Robinhood’s unique formula for calculating PFOF.

170

Employees at Robinhood and Wolverine

continued to communicate throughout the week regarding the acute volatility, and at one point

Wolverine communicated to Robinhood that it considered Robinhood to be “a regulatory and

financial risk to their business.”

171

Early in the morning of January 28, 2021, an employee for

Wolverine emailed Jim Swartwout at Robinhood Securities to state that Wolverine was “on the

cusp of disaster,” and the firm wanted to “stay in the business with Robinhood on the equity side

but the pressure on sustained losses is not good.”

172

Wolverine, like other market makers, faced both financial and operational challenges

during the Meme Stock Market Event. Financially, Robinhood’s unique formula for calculating

PFOF rebate rates created extraordinarily high quoted rates Wolverine would be required to pay

Robinhood relative to periods of less volatility. In addition to Robinhood’s disproportionate PFOF

rebate rates, Wolverine faced operational concerns from the inbound order flow. Like Virtu, the

firm’s IT systems were placed at risk due to the extraordinary order flow in meme stocks.

Throughout January 28, 2021, as Robinhood’s other market makers stopped taking order flow,

Robinhood had to disproportionately increase the amount of order flow it routed to Wolverine.

This additional order flow went far beyond what Robinhood typically sent to Wolverine, which

greatly exacerbated the stress on Wolverine’s systems.

173

Wolverine employees requested that

Robinhood route away all equities trades.

174

As the two firms communicated throughout the night

of January 27, 2021 and throughout the day of January 28, 2021, Robinhood employees, including

Jim Swartwout, grew increasingly frustrated with Wolverine’s requests to route equities away.

175

Robinhood Securities begrudgingly routed equities orders away from Wolverine, which

Robinhood thought Wolverine (referred to as “WEX” in the communication below) had requested

based on concerns from their compliance team regarding the movement of speculative meme

stocks.

170

RH_HFSC_00009944 (on file with the Committee).

171

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021); RH_HFSC_00011870 (on file with the Committee).

172

RH_HFSC_00012324 (on file with the Committee).

173

Wolverine Execution Services briefing with the Committee (Dec. 16, 2021).

174

RH_HFSC_00017640-1 (on file with the Committee).

175

Id.

Figure 21: RH_HFSC_00017640-41

176

Although Wolverine’s operational staff was concerned about the ability of their systems to

accommodate the volume and volatility of the trading in meme stocks,

177

Wolverine had initially

chosen to turn equities off based on a sole individual’s intuition and experience working in the

industry, fearing that it was on the brink of a total breakdown of their systems.

178

Wolverine’s Chief Compliance Officer monitored the firm’s liquidity during the Meme

Stock Market Event but had not expressed concerns regarding the firm’s capacity to continue

executing equities.

179

Wolverine employees did not consult with their compliance department on

the operational concerns they faced, nor did the firm have any written policies or procedures to

determine when to limit trade execution for risk management reasons. There were no regulations

requiring market makers to develop written policies and procedures for such events.

180

Wolverine employees expressed concerns regarding their equities business in the days

leading up to the Meme Stock Market Event, which was a newer, less developed, and significantly

less lucrative business than their options business.

181

Robinhood employees grew increasingly

frustrated with Wolverine and considered ending their entire business relationship with the market

maker—both equities and options—even though Wolverine cleared approximately 20% of

Robinhood’s options orders.

182

176

Id.

177

Id.

178

Wolverine Execution Services briefing with the Committee (Dec. 16, 2021).

179

Id.

180

Id.

181

Email and attachment from General Counsel and Chief Compliance Officer of Wolverine Trading, LLC to

Committee staff (Jan. 18, 2022).

182

RH_HFSC_00017641 (on file with the Committee).

Figure 22: RH_HFSC_00017641

183

Jim Swartwout placed a call to operational staff at Wolverine on January 28, 2021, in

response to Wolverine’s request to route equities away. Swartwout told Wolverine’s staff that if

Wolverine would no longer accept equities for Robinhood, then Robinhood would also no longer

route options through Wolverine either.

184

The Wolverine employee who manages the firm’s

relationship with Robinhood commented to Committee staff that he understood this to mean that

Robinhood would route all options trades away from Wolverine indefinitely if Wolverine did not

continue to accept equities order flow on January 28, 2021.

185

The Wolverine employee relayed Swartwout’s message to Rob Bellick, the Managing

Partner of Wolverine Trading, LLC, Wolverine’s parent company.

186

Rob Bellick made an

executive decision to continue offering equities market making services to Robinhood.

187

Jim Swarwout, President and Chief Operating Officer of Robinhood Securities, directed

his team to turn Wolverine back on after convincing Bellick to override the risk management

concerns of Wolverine’s operational staff.

188

After Wolverine continued trading in equities, Jim

Swartwout commented to a Robinhood Securities trading operations senior manager who reported

to him that, “Rob Bellick came to his senses when I made it clear what our reaction was going to

be,” making it clear that Swartwout believed that Wolverine reacted to Robinhood’s threat to

terminate the business relationship regarding options if Wolverine didn’t continue clearing equities

as well.

189

183

Id.

184

Wolverine Execution Services briefing with the Committee (Dec. 16, 2021).

185

Id.

186

Id.

187

Id.

188

RH_HFSC_00017643 (on file with the Committee).

189

Id.; Wolverine Execution Services briefing with the Committee (Dec. 16, 2021).

Figure 23: RH_HFSC_00017643

190

Wolverine was a small company, (its equities business employed only two employees, a

trader, and an IT professional), and was struggling to accept the increasingly large equities order

flow Robinhood sent their way as certain other market makers that Robinhood routinely routed

orders to ceased accepting order flow. When Wolverine asked Robinhood to reduce the equities

order flow, Robinhood threatened to indefinitely cease routing both options and equities to

Wolverine.

191

As a result, Wolverine continued accepting equities order flow despite the concerns

raised by Wolverine’s operational staff that the increasing order flow could result in a system

failure.

192

Wolverine wound down its equities market making business subsequent to the Meme

Stock Market Event.

193

When Rob Bellick spoke with Committee staff, he could not recall the

specific time or subject matter of any discussion with Jim Swartwout or what was discussed.

194

k. Robinhood and Citadel Securities engaged in “blunt” negotiations the night before

the trading restrictions to lower the PFOF rates Robinhood was charging Citadel

Securities.

While Virtu, G1 Execution Services, Wolverine, and other market makers struggled with

operational constraints, Citadel Securities commented to Committee staff that the firm had

upgraded its system’s capacity significantly since the onset of COVID-19 market volatility.

195

190

RH_HFSC_00017643 (on file with the Committee).

191

Wolverine Execution Services briefing with the Committee (Dec. 16, 2021).

192

Id.

193

Id.

194

Interview with R. Bellick (Wolverine Trading, LLC) (Dec. 08, 2021).

195

Citadel Securities briefing with the Committee (Nov. 03, 2021).

Unlike other market makers, Citadel Securities did not face operational capacity constraints.

196

Citadel Securities employees represented to the Committee that they felt confident their systems

were able to perform during this period of extraordinary volatility and volume.

Citadel Securities and other market makers expressed frustrations with Robinhood’s

calculated PFOF rebate rates on meme stocks throughout January 27, 2021. In response,

Robinhood employees held internal discussions about how to limit PFOF rebate rates to maintain

the relationships with market makers with the primary objective of ensuring Robinhood Securities

had venues available to execute customer orders.

197

Such discussions reached the top of the firm,

with Robinhood’s C-Suite executives, like Robinhood’s CEO Vlad Tenev, Chief Operating Officer

Gretchen Howard, Chief Legal Officer Dan Gallagher, and Robinhood Securities President and

Chief Operating Officer Jim Swartwout remaining highly aware of the potential unwillingness of

Citadel Securities and others to provide for PFOF in line with past commercial practices.

Figure 24: RH_HFSC_00017655

198

196

Id.

197

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021).

198

RH_HFSC_00017655 (on file with the Committee).

Like many other market makers, Citadel Securities grew increasingly concerned about the

magnitude of the PFOF rebates it might be required to pay Robinhood associated with GME and

AMC given Robinhood’s unique PFOF rate structure in an unprecedented trading environment.

199

Neither Citadel Securities employees nor Robinhood employees who spoke with the Committee

could pinpoint precisely when the two firms began negotiating PFOF rebates on January 27,

2021.

200

However, it is clear that by early in the evening of January 27, 2021, Citadel Securities

employees communicated their concerns regarding PFOF rebates to Robinhood, particularly

regarding the skyrocketing PFOF rebates being calculated for GME and AMC.

Figure 25: RH_HFSC_00017631

201

Robinhood and Citadel Securities discussed ways to limit PFOF for one or both symbols.

202

Citadel Securities wanted to make sure that Robinhood understood that the PFOF rebate rates

being calculated based upon Robinhood’s unique spread-based formula were untenable, especially

in the context of the unprecedented volatility and volume. As Citadel employees broached the

subject of limiting PFOF rebates within Robinhood, Jim Swartwout expressed frustration with the

concerns being relayed by the Citadel employee who managed the relationship with Robinhood.

Figure 26: RH_HFSC_00017632

203

199

Citadel Securities briefing with the Committee (Nov. 03, 2021).

200

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021); Citadel Securities briefing with the Committee (Nov.

03, 2021).

201

RH_HFSC_00017631 (on file with the Committee).

202

Id.; RH_HFSC_00017632 (on file with the Committee).

203

RH_HFSC_00017632 (on file with the Committee).

As Robinhood employees discussed ways to limit their PFOF rebate rates, they wanted to

make sure that all market makers were treated equally.

204

Given the volatility of GME, Swartwout

developed a plan to suspend the company’s formula for calculating PFOF rebates and cap PFOF

rebate rates for GME to $0.003 per share retroactively to January 25, 2021, at all of their market

maker venues.

205

Jim Swartwout came up with the new proposal based on a rough average of

Robinhood’s PFOF calculation typically derived from the formula that had been applied to all of

their previous orders.

206

Jim Swartwout expressed willingness internally to route away from

Citadel Securities if Citadel Securities’ relationship manager didn’t “like the new pricing model.

The others will be happy to take it at normal rates.”

207

Figure 27: RH_HFSC_00017632

208

A Senior Vice President at Citadel Securities who managed the relationship with

Robinhood contacted Swartwout’s team on January 27, 2021 to schedule a call to discuss PFOF.

209

At approximately 6:45 p.m. EST on January 27, 2021, Robinhood and Citadel Securities agreed

to have a call to discuss PFOF rebates.

210

At 7:03 p.m. EST, Robinhood emailed its proposal for a

$0.003 per share PFOF rebate rate on GME, retroactive to Monday, January 25, 2021.

211

Simultaneously, Citadel Securities developed a plan suggesting Robinhood place a monetary cap

on PFOF fees per symbol per day, for all symbols, going forward.

212

At 8 p.m. EST, Citadel

204

Id.

205

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021).

206

Id.

207

RH_HFSC_00017632 (on file with the Committee).

208

Id.

209

RH_HFSC_00017631 (on file with the Committee).

210

CIT-HFSC_0000001 (on file with the Committee).

211

Id.

212

Id.

Securities and Robinhood spoke together by telephone during which Citadel Securities suggested

its plan of placing a monetary cap on volatile securities.

213

Citadel Securities employees described this telephone conversation as blunt and indicated

in the call that if Robinhood was unwilling to take actions to limit PFOF rebates being generated,

Robinhood would need to look elsewhere to route trades.

214

Jim Swartwout described the

conversations between Robinhood and Citadel as tense that day.

215

According to Citadel Securities’ representations to the Committee, Citadel Securities

employees did not see Robinhood’s email proposal to cap PFOF rates prior to their 8 p.m. EST

call.

216

Citadel Securities told the Committee that it did not realize it had received Robinhood’s

proposal until after the 8 p.m. call. As a result, Citadel Securities employees described the

conversation as “two ships passing in the night” because Citadel Securities did not realize that

Robinhood had made a proposal – likely not realizing what Citadel Securities had described as not

being aware of Robinhood’s proposal. Later that evening, senior members of Citadel Securities

and Robinhood spoke, and Citadel Securities understood the confusion. Shortly after this evening

call, Citadel Securities accepted Robinhood’s proposal.

Jim Swartwout emailed the Senior Vice President at Citadel Securities who managed the

relationship with Robinhood to tell her, “I am beyond disappointed in how this went down. It’s

difficult to have a partnership when these kind of things go down this way.”

217

Robinhood

employees left the conversation frustrated that Citadel Securities had generated their own plan to

limit PFOF rebates without considering Robinhood’s proposal.

218

On January 30, 2021, the day

after widespread trading restrictions, Robinhood emailed out a similar price cap on AMC, limiting

PFOF rebate rates to $0.003 retroactively to January 19, 2021, in addition to the price cap it had

placed on GME. Citadel Securities accepted.

219

l. Robinhood received a waiver of the largest component of its deposit requirement

from DTCC. Without this waiver, over which Robinhood had no control, the

company would have defaulted on its regulatory collateral obligations.

Before the market opened on the morning of January 28, 2021, at approximately 5:11

a.m. EST, Robinhood Securities, Robinhood’s clearing broker, received its daily automated

notice from the NSCC setting out the firm’s daily collateral deposit requirement of

approximately $3.7 billion.

220

Given the fact that Robinhood already had approximately $700

million on deposit with the NSCC from the day before, this automated notice outlined a

213

Id.; Citadel Securities briefing with the Committee (Nov. 03, 2021).

214

CIT-HFSC_0000001 (on file with the Committee); Citadel Securities briefing with the Committee (Nov. 03, 2021).

215

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021).

216

Citadel Securities briefing with the Committee (Nov. 03, 2021).

217

RH_HFSC_00014317 (on file with the Committee).

218

CIT-HFSC_0000001 (on file with the Committee); Interview with J. Swartwout (Robinhood) (Oct. 22, 2021).

219

Email from counsel for Citadel Securities to Committee staff (Nov. 30, 2021); RH_HFSC_00017636 (on file with

the Committee).

220

RH_HFSC_00000652 (on file with the Committee).

requirement for Robinhood Securities to deposit an additional $3 billion in its NSCC account by

10 a.m. EST.

221

Figure 28: RH_HFSC_00000652

222

As further detailed in the information that the NSCC provided to Robinhood through an

automated portal, the largest components of the company’s collateral deposit requirement was a

Value-at-Risk charge of approximately $1.3 billion, as well as an Excess Capital Premium charge

of $2.2 billion, which Robinhood had not calculated.

223

Robinhood calculated that of the $1.3

billion Value-at-Risk charge, approximately $850 million was attributable to AMC and

approximately $250 million was attributable to GME.

224

When Robinhood Securities’ operational staff first saw the collateral charge, they reached

out to members of Robinhood’s executive team at approximately 5:11 am EST (2:11 am PST in

California where several Robinhood executives reside). The Robinhood employees also attempted

to reach NSCC staff to verify the accuracy of the charge, which they were unsuccessful at doing

upon their first attempt.

225

221

Id.

222

RH_HFSC_00000652 (on file with the Committee).

223

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Sept. 20, 2021).

224

Id.

225

Id.RH_HFSC_00029626 (on file with the Committee); RH_HFSC_00042079-80 (on file with the Committee).

A clearing operations manager based in Orlando, Florida—one of the first Robinhood

Securities employees to learn of the company’s NSCC collateral charge on January 28, 2021—

reached out to Chuck Tennant, the former head of Robinhood’s clearing operation, to better

understand what could happen if a broker-dealer was unable to meet its NSCC collateral

obligations.

226

The Robinhood employee asked Tennant at 6:07 a.m. EST “Hypothetically what

happens if a firm can’t meet their morning NSCC margin settlement?... Hypothetically there isn’t

enough in LOC [i.e., line of credit].”

227

Figure 29: RH_HFSC_00042079-80

228

226

RH_HFSC_00042079 (on file with the Committee).

227

RH_HFSC_00042079-80 (on file with the Committee)

228

Please note, the timestamp for this production is for GMT time. EST is (GMT+5), i.e., the Clearing Operation

Manager’s initial text message was sent at 6:07 a.m. EST. Id.

Chuck Tennant suggested the Robinhood employee should call the NSCC as “they are at

work already.” The Robinhood employee replied that they had been unsuccessfully attempting to

contact the clearinghouse.

229

Tennant further implored the Robinhood employee to “wake up your

senior leaders. Time for a cash infusion.”

230

Figure 30: RH_HFSC_00042079-80

231

On the morning of January 28, 2021, Robinhood had approximately $696 million in

collateral already on deposit with the NSCC, leaving it with a collateral deficit of approximately

$3 billion, which it was required to post to satisfy the NSCC’s clearing fund requirement or risk

being in violation of the NSCC’s rules and potentially losing the ability to clear trades for their

customers altogether.

232

Swartwout confirmed that this amount came as a surprise to Robinhood

and explained to Committee staff that they had anticipated and prepared for the $1.4 billion of

collateral deposit requirements that represent “core” charges, but because they did not model for

Excess Capital Premium charges, Robinhood therefore did not expect and had not arranged

adequate funding for the additional $2.2 billion Excess Capital Premium charge.

233

On the morning

of January 28, 2021, Jim Swartwout texted Gretchen Howard at 6:29 a.m. EST, writing “Huge

liquidity issue.”

234

When Committee staff asked Jim Swartwout what he meant to convey by this early

morning message, Swartwout commented that liquidity can mean different things in different

contexts. In this case, he commented that he was concerned with Robinhood’s ability to meet its

collateral requirement at DTCC.

235

Shortly after learning about Robinhood’s liquidity concerns, Gretchen Howard reached out

to notify Vlad Tenev of the situation.

236

Gretchen Howard also communicated her concerns

229

Id.

230

Id.

231

Id.

232

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Mar. 29, 2021).

233

Interview with J. Swartwout (Robinhood) (May 05, 2021); please see Finding 1(d) for further detail regarding

Robinhood’s failure to address the possibility of Excess Capital Premium charges in its collateral planning processes

and the deficiencies in the models used to calculate its NSCC collateral obligations prior to January 28, 2021.

234

RH_HFSC_00011657 (on file with the Committee).

235

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021).

236

Email and attachment to email from Counsel for Vladimir Tenev to Committee staff (Nov. 10, 2021) (on file with

the Committee).

regarding the company’s liquidity position to the company’s Chief Marketing & Communications

Officer, giving her a “heads-up” in case the company’s liquidity issues leaked. Up until that

morning, the company had faced operational and liquidity concerns all week without suffering

adverse publicity.

237

Figure 31: RH_HFSC_00042085

238

Gretchen Howard also communicated her concerns regarding the company’s liquidity

position to Jason Warnick, Robinhood’s Chief Financial Officer, “Huge liquidity issue with

nscc.”

239

Figure 32: RH_HFSC_00042082

240

Robinhood Securities operations personnel and senior Robinhood Markets executives—

including CFO Jason Warnick, COO Gretchen Howard, and CLO Dan Gallagher—first convened

internally between approximately 6:30 a.m. and 7:15 a.m. EST of that day to determine how best

to address the NSCC’s deposit requirement and manage the situation.

241

During this and several

other conversations early that morning, the Robinhood team determined that they would need to

impose PCO restrictions on certain volatile securities.

242

237

RH_HFSC_00041953 (on file with the Committee).

238

RH_HFSC_00042085 (on file with the Committee).

239

RH_HFSC_00042082 (on file with the Committee). See also RH_HFSC_00042083 and RH_HFSC_00042081 (on

file with the Committee).

240

RH_HFSC_00042082 (on file with the Committee).

241

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Mar. 29, 2021).

242

Id.

m. In addition to restricting stocks, Robinhood leadership throttled new account

creation on their platform to limit volatility and hopefully address liquidity concerns.

In addition to imposing PCO restrictions on top of the existing position limits that the

company had implemented the night before, Gretchen Howard inquired about how to turn off

automatic approvals on new accounts in an effort to reduce volume on Robinhood’s platform.

243

After hesitating to reduce marketing all week, Robinhood leadership was forced to take more

restrictive actions to reduce marketing to slow activity on their trading platform.

244

As Howard

discussed the technical aspects of “throttling,” or slowing the pace of new account openings, she

sought to maximize the reduction of new account creation to ameliorate volatility and mitigate

Robinhood’s liquidity risk.

245

Figure 33: RH_HFSC_00006807

246

243

RH_HFSC_00006807 (on file with the Committee).

244

RH_HFSC_00006803 (on file with the Committee).

245

RH_HFSC_00006807 (on file with the Committee).

246

Id.

According to Robinhood operations staff, turning off auto approval meant that Robinhood

was still “accepting applications, but approval is turned off. This means a large number of

customers (were) still applying but (wouldn’t) be approved immediately,” delaying their ability to

transact on the platform.

247

The decision to throttle new account creation arose spontaneously on

the morning of January 28, 2021.

248

During the afternoon of January 28, 2021, Robinhood Director

of Account Operations estimated that approximately 300,000 customer applications were waiting

in the queue to be approved.

249

Robinhood employees discussed when to turn auto approval back

on throughout the day on January 28, 2021 but decided to keep the auto approvals turned off for

the remainder of the day due to risk concerns associated with increased load on their platform.

250

As a Robinhood employee said in a chat discussing when to resume approving accounts, “any

additional load takes us to the bottom faster.”

251

247

RH_HFSC_00028605-06 (on file with the Committee).

248

RH_HFSC_00006807 (on file with the Committee).

249

RH_HFSC_00053795 (on file with the Committee).

250

RH_HFSC_00006639 (on file with the Committee).

251

Id.

Figure 34: RH_HFSC_00006639

252

Ultimately Robinhood’s decision to turn off auto approval had a significant impact on the

number of new accounts on its platform. On the morning of January 29, 2021, the next day,

Robinhood Financial’s Director of Brokerage Risk estimated that the number of customers waiting

in the queue for their accounts to be approved had increased to approximately 730,000.

253

In addition to slowing volume on the platform, the Robinhood team felt the need to raise

additional capital early on the morning of January 28, 2021.

254

More capital would be needed to

ensure that Robinhood could meet deposit requirements going forward and bolster its capital base,

so that the firm could resume normal trading operations for its customers as soon as possible.

255

At the time, company executives, including Robinhood CFO Jason Warnick understood

that raising additional capital would allow customers to trade on an unrestricted basis.

256

Warnick

252

Id.

253

RH_HFSC_00055051 (on file with the Committee).

254

Interview with J. Warnick (Robinhood) (Jun. 10, 2021).

255

Id.

256

Id.

began organizing the capital raising and placing calls to key investors.

257

Robinhood chose to raise

additional capital by issuing convertible notes in two tranches to participating investors.

258

At the

outset of the capital raising, Robinhood sought $1 billion in new investment, a target it increased

to $3.5 billion by Saturday, January 30, 2021.

259

The company’s financial modeling predicted the

company would need $2.5 billion in additional capital to return to a normal, unrestricted trading

environment and handle potential spikes in collateral deposit requests driven by continued market

instability.

260

Robinhood’s $3.5 billion fundraising target therefore included an additional $1

billion beyond this amount as a prudential measure.

261

n. Robinhood’s Chief Legal Officer notified senior officials at the DTCC that

Robinhood could not meet its collateral obligations before the market opened on

January 28, 2021.

Robinhood Securities’ operations personnel worked to contact the DTCC on the morning

of January 28, 2021 to seek confirmation that the amount of their NSCC collateral deposit

requirement, as communicated in that morning’s automated notice, was accurate and to seek an

understanding of the nature of the charges.

262

At approximately 6:30 a.m. EST, a market risk

manager at DTCC spoke with the Head of Securities Processing of Robinhood Securities for

approximately 15 minutes, with the conversation focused on the manner in which the Excess

Capital Premium charge and volatility charge components of Robinhood Securities’ daily clearing

fund requirement had been calculated. Robinhood would have been able to estimate its volatility

charge using a calculator tool in NSCC’s member portal or using the methodology guide that

NSCC makes available to members. NSCC’s Excess Capital Premium charge formula was also

publicly available prior to the Meme Stock Market Event.

263

During this call, Robinhood also

conveyed to DTCC that it believed that the NSCC’s calculation of Robinhood’s Value-at-Risk

charge for the day was unreasonable.

264

At approximately 7:15 a.m. EST, Dan Gallagher, Robinhood’s Chief Legal Officer and

former Republican Commissioner of the SEC, placed a phone call to a Deputy General Counsel at

DTCC with whom Gallagher was professionally acquainted (the two men had previously worked

at the same law firm).

265

The Deputy General Counsel was not immediately available, but returned

Mr. Gallagher’s call soon thereafter.

266

On this call, Gallagher indicated that the NSCC’s clearing

fund requirement for Robinhood for the day was problematic and requested that the matter be

escalated within DTCC’s risk department, which is ultimately responsible for the calculation,

257

Id.

258

Id. Committee staff have reviewed the funding documents associated with this capital raising and obtained detailed

information on the timing of the receipt of funds that constituted the capital raising by Robinhood.

259

Id.

260

Id.

261

Id.

262

Interview with J. Swartwout (Robinhood) (May 05, 2021).

263

Email from General Counsel for DTCC to Committee staff (Aug. 4, 2021).

264

DTCC briefing with the Committee (Sept. 10, 2021).

265

Interview with D. Gallagher (Sept. 13, 2021).

266

Id.

assessment, and waiver of collateral charges.

267

The Deputy General Counsel indicated that

Gallagher affirmatively raised the prospect of reducing the amount of Robinhood’s daily clearing

fund requirement and was interested in connecting with more senior DTCC officials to discuss

how to obtain relief, waiver, or an exemption.

268

The Deputy General Counsel conveyed that he would attempt to alert the relevant people

internally at the DTCC who were responsible for these matters, but also explained that NSCC rules

limited the circumstances in which extensions or other modifications to clearing fund requirements

can be made.

269

In interviews with Committee staff, the Deputy General Counsel also explained

that he understood that Gallagher placed a call to him because Robinhood officials were concerned

that the DTCC operational employee that was previously serving as their point of contact was too

junior with respect to Robinhood’s challenges relating to its daily clearing fund requirement and

may not have had the authority to provide relief in terms of exemptions or other forbearance.

270

Upon concluding the call, the Deputy General Counsel sent an internal email to senior DTCC

officials, including to Timothy Cuddihy, DTCC’s Managing Director of Financial Risk

Management, alerting them to Robinhood’s issue.

271

When asked about the specific concerns that

Gallagher relayed to the NSCC during his call with the DTCC Deputy General Counsel, Gallagher

told Committee staff he did not recall the conversation with specificity.

272

Figure 35: Email from DTCC Deputy General Counsel to T. Cuddihy and others in

DTCC’s Risk and Legal Departments (7:38am EST)

273

267

DTCC briefing with the Committee (Jul 29, 2021).

268

Id.

269

Id.

270

Id.

271

Id.; DTCC_CONG_00000001(on file with the Committee).

272

Interview with D. Gallagher (Robinhood) (Sept. 13, 2021).

273

DTCC_CONG_00000001 (on file with the Committee).

Also, at approximately 7:15 a.m. EST on January 28, 2021, other DTCC personnel

confirmed the accuracy of the approximately $3.7 billion collateral deposit requirement to the

Robinhood Securities employee who had initiated the outreach to them earlier that morning.

274

Robinhood Securities personnel then requested a larger group call for later that morning to be

attended by senior DTCC personnel along with senior Robinhood Securities and Robinhood

Markets executives.

275

At approximately 7:45 a.m. EST, the DTCC’s Market Risk Director spoke

with the Head of Securities Processing of Robinhood Securities about the NSCC’s Excess Capital

Premium charge to Robinhood for the day. The DTCC’s Market Risk Director conveyed that

Robinhood’s Excess Capital Premium charge was being reviewed for downward adjustment

without commenting on why it was being reviewed or what would qualify Robinhood for a

downward adjustment.

276

At approximately 8:15 a.m. EST, senior personnel from DTCC, Robinhood Securities, and

Robinhood Markets spoke about the deposit requirements.

277

Specifically, the conversation

addressed the Excess Capital Premium charge and Value-at-Risk components of Robinhood’s

daily clearing fund requirement, and the impact that the clearing fund requirement would have on

Robinhood’s liquidity for that day.

278

During that call, Robert Crain, an equity market risk

executive at DTCC, stated that the DTCC was prepared to reduce the Excess Capital Premium

charge from approximately $2.3 billion to approximately $835 million. Crain notified Robinhood

that the DTCC was evaluating a further reduction or waiver of the Excess Capital Premium

charge.

279

According to Robinhood officials, the DTCC did not provide a specific basis for

reducing Robinhood’s Excess Capital Premium charge. Upon being informed that the Excess

Capital Premium charge would be reduced, the senior Robinhood personnel on the call expressed

that even such a reduced amount would present an operational strain on the firm’s liquidity.

280

According to DTCC officials, Gretchen Howard also asked the DTCC if Robinhood could

negotiate its Value-at-Risk charge down to a lower amount, which DTCC officials refused.

281

addition, according to DTCC officials, Robinhood Securities personnel explained the mitigation

efforts that were being taken in response to the unanticipated spike in collateral requirements

during this call, specifically conveying that Robinhood had increased margin requirements for its

clients to 100% on GME and certain other volatile equities and had decided to impose PCO

274

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Mar. 29, 2021).

275

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Mar. 29, 2021).

276

Email from General Counsel for DTCC to Committee staff (Aug. 03, 2021); DTCC briefing with the Committee

(Sept. 10, 2021); Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Mar. 29, 2021);

DTCC briefing with the Committee (Sept. 17, 2021).

277

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Mar. 29, 2021); Email from

General Counsel for DTCC to Committee staff (Aug. 03, 2021). The Robinhood participants on this call included

Gretchen Howard (Chief Operating Officer of Robinhood Markets, Inc.), Daniel Gallagher (Chief Legal Officer of

Robinhood Markets, Inc.), Director of Financial Operations and Chief Financial Officer of Robinhood Securities, and

Clearing Operations Manager (Securities Processing) for Robinhood Securities.

278

Email from General Counsel for DTCC to Committee staff (Aug. 03, 2021).

279

Id.

280

DTCC briefing with the Committee (Sept. 10, 2021).

281

Id.

restrictions on certain volatile symbols.

282

In speaking with the Committee, Gretchen Howard

could not recall the specific details of any conversations with DTCC officials on the morning of

January 28, 2021.

283

Upon concluding the call, DTCC officials requested that Robinhood provide detailed

liquidity and other financial information to DTCC and participate in one or more follow-up calls

later that day.

284

At some time between 8:00 a.m. EST and 8:15 a.m. EST, a DTCC official

separately notified a Robinhood Securities employee that Robinhood Securities’ Excess Capital

Premium charge had been reduced to approximately $876 million from the original approximately

$2.2 billion.

285

At approximately 8:35 a.m. EST, the Deputy General Counsel of the DTCC and Robinhood

CLO Dan Gallagher spoke again by telephone for approximately 10 minutes.

286

During the phone

call, the two discussed Robinhood’s Value-at-Risk charges, as well as actions that Robinhood was

undertaking to improve its current liquidity position.

287

Gallagher stated that Robinhood believed

that its Value-at-Risk charge of $1.3 billion would be sufficient, that additional charges were not

necessary, and this was an appropriate circumstance for the DTCC to exercise its discretion to

reduce or waive Robinhood’s Excess Capital Premium charge.

288

According to the Deputy General

Counsel, Gallagher also indicated that if the NSCC charged amounts in excess of the Value-at-

Risk charge, this would stress Robinhood’s liquidity.

289

The Deputy General Counsel responded

that he understood Robinhood’s position on the matter, but that the NSCC was subject to rules and

oversight that did not allow it to waive nondiscretionary charges.

290

Gallagher indicated that he

accepted that, but implored the Deputy General Counsel for further relief, arguing that the Excess

Capital Premium charge could be further reduced or waived entirely consistent with NSCC

rules.

291

282

Email from General Counsel for DTCC to Committee staff (Aug. 03, 2021). See Finding 1(c) for further detail on

trading restrictions imposed.

283

Interview with G. Howard (Robinhood) (Jan. 07, 2022).

284

Email from General Counsel for DTCC to Committee staff (Aug. 03, 2021). At approximately 9:45 a.m., Tim

Hulse (Risk Management Executive at DTCC) had a follow up conversation with Dan Gallagher and Gretchen Howard

to further discuss DTCC’s request for additional information concerning Robinhood’s liquidity and capital. Robinhood

and DTCC officials also had a call at approximately 1:30 p.m. to discuss clearing fund requirements applicable to

Robinhood as well as Robinhood’s available liquidity lines and plans to raise additional capital. DTCC officials on

this call included members of the Risk Committee. Robinhood officials on this call included Gretchen Howard, Dan

Gallagher, and Jim Swartwout. The call lasted approximately 20 minutes.

285

The approximately $876 million amount that was established as the modified ECP charge was determined in

accordance with a methodology that the NSCC had used in certain prior cases where it had modified an assessed

charge.

286

Email from General Counsel for DTCC General Counsel for DTCC to Committee staff (Aug. 03, 2021).

287

Id.

288

Id.; DTCC briefing with the Committee (Sept. 15, 2021).

289

DTCC briefing with the Committee (Sept. 15, 2021); Email from General Counsel for DTCC to Committee staff

(Aug. 03, 2021).

290

DTCC briefing with the Committee (Sept. 15, 2021).

291

Id.; Mr. Gallagher expressed that he did not recall all of the details of this particular conversation.

At 9:11 a.m. EST, 19 minutes before the market opened, Robinhood Securities received

an updated deposit requirement notice from the NSCC that outlined a total deposit requirement of

approximately $1.4 billion with a reduction in the Excess Capital Premium charge to $0.

292

This

left Robinhood needing to meet an overall collateral deficit at the NSCC of approximately $734

million by NSCC’s 10:00am

deadline. Subsequent to receiving

this updated deposit requirement

notice, Robinhood wired the

approximately $734 million

remaining balance and satisfied the

reduced aggregate deposit

requirement of approximately $1.4

billion.

293

According to Robinhood

executives, at no time during the

course of its conversations about

Excess Capital Premium charges

did DTCC personnel explain to

Robinhood Securities their precise

rationale for ultimately waiving the

Excess Capital Premium charge

and whether this waiver was

connected to the various remedial

measures that Robinhood informed

them that it would be taking.

294

addition, Robinhood did not

subsequently obtain, or seek, a

further confirmation from DTCC

about what prompted the issuance of the waiver.

295

In interviews with Committee staff,

Robinhood’s executives expressed relief at having received the benefit of this waiver, but could

not draw conclusions as to why the NSCC ultimately decided to exercise its discretionary authority

to issue it.

296

Six NSCC member firms generated Excess Capital Premium charges on the morning of

January 28, 2021. NSCC officials explained to Committee staff that they ultimately decided to

issue an across-the-board waiver of Excess Capital Premium charges to all member firms that were

assessed such a charge on January 28, 2021, due to concerns that applying the charge as assessed

292

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Mar. 29, 2021).

293

Id.

294

Interview with J. Swartwout (Robinhood) (May 05, 2021); Interview with J. Swartwout (Robinhood) (May 21,

2021); Interview with G. Howard (Robinhood) (Jun. 11, 2021).

295

Interview with J. Swartwout (Robinhood) (May 21, 2021).

296

Id.; Interview with G. Howard (Robinhood) (Jun. 11, 2021); NSCC, NSCC Rules and Procedures – Procedure XV

I(B)(2) (Jan. 01, 2021). NSCC is granted broad discretion to waive Excess Capital Premium charges pursuant to

existing NSCC rules and, thus, was acting within its regular authority when it made the determination to waive these

charges.

9:11

EST,

MINUTES BEFORE

THE MARKET OPENED, ROBINHOOD

SECURITIES RECEIVED AN UPDATED

DEPOSIT REQUIREMENT NOTICE FROM THE

NSCC THAT OUTLINED A TOTAL DEPOSIT

REQUIREMENT OF APPROXIMATELY $1.4

BILLION WITH A REDUCTION IN THE EXCESS

CAPITAL PREMIUM CHARGE TO $0.

could have created systemic risk to the market. NSCC explained that extraordinary spike in market

volatility, particularly in meme stocks, was a material contributor to the elevated clearing fund

requirements for several firms, including most of those that were subject to Excess Capital

Premium Charges that day. Therefore, it determined that it would not be appropriate to apply the

charge.

297

Without the NSCC’s waiver of Robinhood’s Excess Capital Premium charge, Robinhood’s

nonpayment would have constituted a “serious rule violation” according to the NSCC’s rules.

298

When a clearing-broker cannot deposit the required collateral, the member is in default to the

clearinghouse and NSCC may “cease to act” for that member under its rules, as the NSCC did for

Lehman Brothers on September 24, 2008 and MF Global on October 31, 2011.

299

When NSCC

ceases to act, the clearinghouse assumes control of the defaulted member’s portfolio and liquidates

it.

300

This is done to limit the risk that the defaulted member poses to NSCC and to other non-

defaulting NSCC members, who can be subject to mutualized losses if the collateral already held

by NSCC is insufficient to cover losses on the defaulter’s portfolio.

301

Robinhood leadership

remained aware during the morning of January 28, 2021 that the NSCC could effectively eliminate

the company’s ability to clear their client’s trades and liquidate the firm’s holdings.

302

While Robinhood’s senior staff engaged in extensive crisis management on the morning of

January 28, 2021, to avoid such a possibility, Robinhood Financial President and COO David

Dusseault, whose communications from earlier in the week emphasized that among his main

priorities was avoiding negative press, expressed doubt that DTCC would “shut (Robinhood)

down” as a result of its collateral obligations.

303

297

Testimony of Michael C. Bodson, Game Stopped? Who Wins and Loses When Short Sellers, Social Media, and

Retail Investors Collide, Part III, 117th Cong. (May 06, 2021).

298

DTCC briefing with the Committee (Jun. 17, 2021).

299

National Securities Clearing Corporation, Lehman Brothers, Inc. Closeout – Deadline for Submission of Member

Closeout Details to NSCC for Security Balance Orders including CNS Receive and Deliver Orders (Oct. 31, 2008);

National Securities Clearing Corporation, NSCC CEASES TO ACT – MF GLOBAL INC. (MEMBER NOS. 120

AND 650) (Oct. 31, 2011).

300

Ceasing to act requires board of directors’ approval under NSCC’s rules. A recommendation to cease to act would

originate with the Risk team which, time permitting, would convene the Management Risk Committee to approve the

recommendation to the Board.

301

DTCC briefing with the Committee (Jun. 17, 2021).

302

Interview with G. Howard (Robinhood) (May 11, 2021).

303

RH_HFSC_00007111 (on file with the Committee).

Figure 36: RH_HFSC_00007111

304

Dusseault commented to Committee staff that he made this comment to give other

employees comfort while the firm was navigating the early morning of January 28, 2021, before

the DTCC granted its waiver.

305

When discussing the matter with other Robinhood employees

later in the day on January 28, 2021, Dusseault stated that the DTCC had a reputation for asking

for large amounts of collateral. Dusseault commented to Committee staff that he made this

statement based on his decades of experience working for other broker-dealers.

306

Figure 37: RH_HFSC_00043294

307

304

Id.

305

Interview with D. Dusseault (Robinhood) (Jan. 05, 2022).

306

Id.

307

RH_HFSC_00043294 (on file with the Committee).

o. Robinhood asserted to the public and testified to the Committee that the company

was “always comfortable with [its] liquidity” leading up to its historic trading

restrictions, despite the actions undertaken by Robinhood’s executive leadership to

respond to liquidity issues it faced in the days leading up to the Meme Stock Market

Event.

The NSCC waived Robinhood’s Excess Capital Premium charge at approximately 9:11 am

EST. After the conclusion of the trading day, at 7:00 p.m. EST, Robinhood CEO Vlad Tenev

appeared on CNBC and stated that, “there’s no liquidity problem.”

308

Furthermore, on February

18, 2021, Vlad Tenev testified before this Committee and stated that, “we were always comfortable

with our liquidity.”

309

CHAIRWOMAN WATERS: … Mr. Tenev, you explained that Robinhood restricted

transactions in certain securities to meet demands coming from your clearinghouse, and

yet, on January 28th, you represented to the media that there was no liquidity problem.

Isn’t it true that being concerned about having enough capital to meet deposit

requirements—isn’t that a liquidity problem? Could you just answer yes or no?

MR. TENEV: Chairwoman Waters, I appreciate the opportunity to address that.

CHAIRWOMAN WATERS: Just yes or no.

MR. TENEV: We always felt comfortable with our liquidity and the additional

capital that Robinhood raised—

CHAIRWOMAN WATERS: Please answer yes or no.

MR. TENEV: We always felt—

CHAIRWOMAN WATERS: Reclaiming my time, I don’t have time, I just need a yes-

or- no answer.

MR. TENEV: I stand by my statement. The additional capital we raised wasn’t to meet

capital requirements or deposit requirements—

308

Kevin Stankiewicz, Robinhood CEO: Tapping credit lines is proactive, not a sign of cash crunch in GameStop

frenzy, CNBC (Jan. 29, 2021).

309

House Committee on Financial Services, Game Stopped? Who Wins and Loses When Short Sellers, Social Media,

and Retail Investors Collide, Part III, 117

Cong. (May 06, 2021).

Although Tenev claimed that Robinhood “was always comfortable with our liquidity,”

Tenev was aware of the need to manage the firm’s liquidity relative to the volatility in meme stock

trading leading up to the Meme Stock Market Event.

310

Figure 38: RH_HFSC_00007154

311

Robinhood Markets Chief Operating Officer, Gretchen Howard, described her role to

Committee staff as a “train conductor” who works to place “the right leaders with the right skill

sets in the right environments so that they can run those businesses effectively.

312

After receiving

a text from Jim Swartwout, the head of Robinhood’s clearing operation, on the morning of January

28, 2021 that Robinhood was experiencing a “Huge liquidity issue,”

313

Howard sent numerous

communications to Robinhood’s Chief Financial Officer, Chief Marketing & Communications

Officer, and other leaders at the company representing her belief that the firm was experiencing a

“huge liquidity issue with nscc.”

314

Committee staff asked Gretchen Howard about the disconnect between how the company

communicated regarding the issues with meeting its NSCC collateral obligations inside the firm

310

RH_HFSC_00007154 (on file with the Committee).

311

Id.

312

Interview with G. Howard (Robinhood) (Jan. 07, 2022).

313

RH_HFSC_00011657 (on file with the Committee).

314

RH_HFSC_00042082 (on file with the Committee).

and outside the firm.

315

Howard commented to Committee staff that her internal statements about

liquidity were a first reaction after being woken up so early and first learning of the situation, but

after the NSCC issued a waiver, Robinhood was comfortable with its liquidity and staff moved on

to handle other operational concerns.

316

Yet the Committee’s investigation demonstrates that

Robinhood was concerned about its liquidity position and had been in the days leading up to

January 28, 2021. It was only the DTCC’s willingness to waive the largest component of

Robinhood’s January 28, 2021 collateral obligations that gave Robinhood’s leadership the

breathing room to focus on other matters.

In fact, after the NSCC waived the Excess Capital Premium charge on January 28, 2021

Robinhood continued to seek reductions to its “core” NSCC deposit requirements, as reflected in

its Value-at-Risk charge, beyond the initial request by Gretchen Howard.

317

Specifically, at

approximately 11:00 a.m. EST, Robert Crain, Executive Director, and another colleague in

DTCC’s Risk Department spoke with Robinhood’s Head of Securities Processing by phone.

318

During that call, Robinhood requested a reduction in its Value-at-Risk charge for that day.

319

DTCC officials indicated that a reduction in the Value-at-Risk charge was not available.

320

During a subsequent 12:00 p.m. call, Robinhood Securities’ Director of Financial

Operations, a senior manager in Robinhood’s treasury department, and Robinhood Securities’

Head of Securities Processing spoke with Robert Crain, and discussed Robinhood’s request for

additional information about the calculation of the Value-at-Risk charge with Robinhood again

requesting a reduction of its Value-at-Risk charge for the day.

321

DTCC officials once again

indicated to Robinhood that a reduction in the Value-at-Risk charge was neither available nor

permitted by the publicly available NSCC rules.

322

To meet NSCC collateral deposit requirements, clearing brokers such as Robinhood

Securities typically access their own balance sheet. Many also have access to parent company

funding. They typically also arrange for the availability of credit facilities with lending institutions

that can be drawn down from as needed. Accounting for its various funding sources, Robinhood

Securities’ maximum cash balance prior to remitting its NSCC collateral deposit on the morning

of January 28, 2021, was approximately $1.44 billion. While $1.44 billion represents Robinhood’s

peak available liquidity on the morning of January 28, 2021, Robinhood senior leadership

315

Interview with G. Howard (Robinhood) (Jan. 07, 2022).

316

Id.

317

Email from General Counsel for DTCC to Committee staff (Aug. 03, 2021). Interview with R. Crain (DTCC) (Sept.

17, 2021); DTCC briefing with the Committee (Sept. 17, 2021).

318

Email from General Counsel for DTCC to Committee staff (Aug. 03, 2021); Interview with R. Crain (DTCC) (Sept.

17, 2021); DTCC briefing with the Committee (Sept. 17, 2021).

319

Interview with R. Crain (DTCC) (Sept. 17, 2021); DTCC briefing with the Committee (Sept. 17, 2021).

320

Email from General Counsel for DTCC to Committee staff (Aug. 03, 2021).

321

Id.; Interview with R. Crain (DTCC) (Sept. 17, 2021); DTCC briefing with the Committee (Sept. 17, 2021).

322

Interview with R. Crain (DTCC) (Sept. 17, 2021); DTCC briefing with the Committee (Sept. 17, 2021).

understood they had approximately $600 million available cash, as represented to the NSCC and

memorialized in an email by a Deputy General Counsel at the DTCC.

323

Further complicating matters, throughout the day of January 28, 2021, a number of

Robinhood’s credit counterparties, including Barclays, US Bank, and Bank of Montreal, reached

out expressing concerns about the company’s liquidity arrangements.

324

For instance, Robinhood’s

circumstances “caught the attention of folks at the top of (the) firm,” at Barclays, one of

Robinhood’s credit counterparties.

325

As a Managing Director at Barclays communicated to

Robinhood’s Treasurer on January 28, 2021, when asking for more information to better

understand Robinhood’s liquidity position, “the ask comes from a very high level of our firm.”

326

Even accounting for the approximately $700 million of collateral already on deposit with

the NSCC on the morning of January 28, 2021, Robinhood would not have had the resources to

post an aggregate of approximately $3.7 billion of collateral.

327

Jim Swartwout acknowledged this

during interviews with Committee staff and Vlad Tenev also testified before this Committee that

Robinhood did not have sufficient capital on hand when the company first received deposit notice

from the NSCC at 5:11 a.m. EST on January 28, 2021,

328

stating “at that moment, we would not

have been able to post the $3 billion in collateral.”

The Committee’s investigation further revealed that, even after exhausting all its available

liquidity sources, Robinhood would have been unable to meet the collateral requirements by the

10:00 a.m. EST deadline. In other words, but for the NSCC’s decision to waive the Excess Capital

Premium charge, Robinhood Securities would have defaulted on its daily collateral deposit

requirement upon the 10:00 a.m. deadline, which seems at odds with statements made by the

company’s executive leadership regarding the firm’s liquidity.

The consequences when a broker-dealer defaults can be severe for the firm, its customers,

other clearing firm members, and the stock market. Indeed, FINRA monitored Robinhood and

other broker-dealers closely throughout the day on January 28, 2021, considering such

contingencies as whether troubled companies could potentially default, which could lead to them

liquidating their positions and requiring the Securities Investor Protection Corporation (SIPC) to

step in to protect investors.

329

Had Robinhood been forced to extend all of its available capital to

323

As of January 28, 2021, Robinhood Securities had access to a parent company line of credit of $550 million, of

which it had previously drawn $300 million, leaving an additional $250 million available to meet the 10:00 a.m.

collateral deposit deadline. Robinhood Securities also had access to a secured credit line of $550 million that remained

unutilized during the weeks of January 25, 2021 and February 1, 2021. Robinhood Markets also had access to a $600

million credit line, which it drew from January 27, 2021, in the amount of $500 million and a further amount of $100

million on January 28, 2021, as part of its normal procedures, and it therefore was depleted and unavailable. Email

from Counsel for Robinhood to Committee staff (May 20, 2021).

324

RH_HFSC_00022140 (on file with the Committee); RH_HFSC_00022058 and RH_HFSC_00022049 (on file with

the Committee).

325

RH_HFSC_00022140 (on file with the Committee).

326

Id.

327

RH_HFSC_00000862 (on file with the Committee).

328

House Committee on Financial Services, Testimony of Vlad Tenev, Game Stopped? Who Wins and Loses When

Short Sellers, Social Media, and Retail Investors Collide, Part III, 117

Cong. (May 06, 2021).

329

FINRA briefing with the Committee (Sept. 29, 2021).

meet its unanticipated regulatory clearing obligations, effectively defaulting on its obligations, the

company would have faced a threat to its ability to operate as a clearing broker altogether.

Gretchen Howard acknowledged in interviews with Committee staff that the company

understood that if it defaulted on this obligation, the NSCC would have had the right to effectively

shut down Robinhood’s ability to clear trades for its clients.

330

Although Vlad Tenev testified to

the Committee that Robinhood‘s “risk management processes worked appropriately to keep

[Robinhood] in compliance with all of our deposit requirements and collateral requirements,” the

Committee staff‘s investigation has revealed that Robinhood was unprepared to meet its collateral

deposit requirements on January 28, 2021, both from a liquidity as well as a risk planning

perspective.

331

The company was only saved from defaulting on its daily collateral deposit requirement

by a discretionary and unexplained waiver issued by the NSCC over which Robinhood had no

control. In other words, Robinhood’s risk management processes did not work well to predict and

avert the risk of default that materialized. Rather, Robinhood’s risk management processes failed

and wider risk to Robinhood’s customers was only averted due to the NSCC’s exercise of

discretion.

This was not simply a mistake of operational balance sheet management by Robinhood,

but a more fundamental failure to adequately capitalize the firm, maintain adequate liquidity

arrangements relative to the firm’s business model and risk profile, and accurately predict and

prepare for NSCC deposit requirements as set forth in publicly available rules and based on

customer trading activity. Instead of making appropriate arrangements to be prepared for the spike

in collateral deposit requirements experienced on January 28, 2021, as would be called for by

effective risk management processes, Robinhood’s failure to do so required the firm to focus on

remedial measures after the fact.

p. Robinhood adopted more extensive trading restrictions for a longer period of time

relative to other broker-dealers that imposed comparable restrictions.

Robinhood’s trading restrictions consisted of a blanket prohibition on the purchase of

certain highly volatile stocks followed by strict limits on 50 securities that individual customers

could purchase on its platform. The public, including many of Robinhood’s own customers,

received such severe restrictions poorly.

332

Prior to January 28, 2021, Robinhood adopted a number of trading restrictions that were

consistent with what was occurring in the wider industry, including gradually increasing margin

330

Interview with G. Howard (Robinhood) (Jun. 11, 2021).

331

House Committee on Financial Services, Virtual Hearing – Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part I (Feb. 18, 2021).

332

Robinhood Markets CEO, Vlad Tenev’s personal information was somehow released to the public and he received

numerous threatening and vulgar messages on his personal cellphone targeting himself and his family throughout the

day of January 28, 2021. Email and attachment to email from counsel for Vladimir Tenev to Committee staff (Nov.

10, 2021) (on file with the Committee).

requirements for its customers purchasing GME.

333

On January 26, 2021, for instance, Robinhood

Securities, Robinhood’s clearing broker, increased initial and maintenance margin requirements

for GME to 80% and, later in the day, increased initial margin requirements for GME to 100%.

334

Margin requirements on GME were later increased to 100% on January 27, 2021 which made

GME non-marginable.

335

As market volatility continued throughout the week of January 25, 2021,

Robinhood gradually extended such requirements and on January 27 and 28, 2021 and increased

the initial and maintenance margins requirements for 11 other volatile equities to 100%.

336

Robinhood also reduced the total amount of GME options contracts each customer could purchase

from 5,000 to 3,000 on January 26, 2021, meaning each customer could only purchase option

contracts on 3,000 GME stocks.

337

On January 27, 2021, Robinhood further reduced these position limits for GME options

from 3,000 to 300, and then from 300 to 100.

338

That same day, approximately 604,000 new

customers downloaded the company’s app for the first time, and Robinhood recorded one of its

then-highest daily active user numbers of approximately 9.4 million.

339

In addition, due to its

heightened exposure to volatile securities, on January 27, 2021, the NSCC notified Robinhood of

an intraday charge of approximately $411 million, which brought the total end of day deposit

requirement to approximately $693 million, as more fully described previously in this section.

Thereafter, Robinhood personnel anticipated implementing more restrictive measures, such as

position limits on equities, which would restrict the total number of stocks a customer could own,

and PCO restrictions on certain volatile stocks, which would prohibit customers from purchasing

those stocks altogether for the duration of the PCO restriction.

340,

341

After the market closed on the night of January 27, 2021, Robinhood Securities imposed

$10,000 position limits for all customer accounts on six stocks, including GME, AMC, BB,

Express, Inc. (EXPR), KOSS, and NOK, meaning that for the duration of the position limit,

customers could not make new purchases of the restricted stocks if such purchase would result in

the customer owning more than $10,000 total as a result.

342

Robinhood also formulated a plan to

impose PCO restrictions for January 28 and January 29, 2021 for GME options contracts expiring

333

Appendix A to Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Mar. 29, 2021).

334

Appendix A to Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Mar. 29, 2021).

335

Id.

336

These included Dillard’s, Inc. (DDS), Ligand Pharmaceuticals (LGND), Bed Bath & Beyond Inc. (BBBY),

National Beverage Corp. (FIZZ), AMC Networks Inc. (AMCX), Macerich (MAC), Academy Sports and Outdoors

Inc (ASO), SunPower Corp. (SPWR), Tanger Factory Outlet Centers Inc. (SKT), Accelerate Diagnostics Inc. (AXDX)

and BlackBerry Ltd. (BB). Appendix A to Letter from counsel for Robinhood to Chairwoman Waters and Chairman

Green (Mar. 29, 2021).

337

Appendix A to Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Mar. 29, 2021).

338

Id.

339

Id.

340

Id.; Interview with J. Swartwout (Robinhood) (May 05, 2021).

341

As used in this report, “position-closing only” or “PCO” refers to the practice of only permitting sales of a subject

security while prohibiting purchases of that same security.

342

Appendix A to Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Mar. 29, 2021).

on January 29, 2021.

343

PCO restrictions were ultimately placed on options contracts expiring on

January 29, 2021 for each of GME, American Airlines (AAL), AMC, BB, BBBY, NOK and

Sundial Growers (SNDL).

344

Faced with an extremely

large deposit requirement on the

morning of January 28, 2021, as

discussed previously in this section,

and which Robinhood would have

been unable to satisfy, the company

attempted to mitigate the volatility

that it believed was driving its

collateral deposit requirements.

345

Throughout the morning of January

28, 2021, specifically between 6:30

a.m. EST and 7:30 a.m. EST,

Robinhood Securities employees

began to impose position closing

only (PCO) restrictions on certain

highly volatile symbols (and

corresponding options contracts)

which would prohibit customers

from purchasing these stocks altogether.

346

Broker-dealers rarely introduce position closing only

(PCO) restrictions. Usually, broker-dealers will only introduce PCO restrictions to comply with

regulatory obligations, e.g., a stock has been delisted or the stock was offered by a company which

has been banned from the U.S. equities market.

347

FINRA commented to Committee staff that

they consider using PCO restrictions as a risk mitigation tactic to be extraordinary.

348

Robinhood

343

Appendix A to Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Mar. 29, 2021).

Robinhood Financial (RHF) and Robinhood Securities (RHS) decided to commence their standard option closeout

procedure earlier in the afternoon on Friday, January 29, 2021, and would also close out riskier positions with the

intended aim of reducing potential losses to customers. Because RHS was anticipating these steps on January 29, 2021

for GameStop (GME) and AMC Entertainment Holdings (AMC) options contracts expiring on January 29, 2021, it

believed it suitable to also prohibit customers from buying these options contracts on January 28 or 29, 2021 (given

that it would be closed on the same day or the following day).

344

Appendix A to Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Mar. 29, 2021).

The PCO restrictions on these options contracts remained in place when PCO restrictions were otherwise lifted on

January 29, 2021.

345

Interview with J. Swartwout (Robinhood) (May 05, 2021).

346

Restricted stocks included: American Airlines (AAL), AMC Entertainment Holdings (AMC), BlackBerry Ltd.

(BB), Bed Bath & Beyond Inc. (BBBY), Castor Maritime Inc. (CTRM), Express, Inc. (EXPR), GameStop (GME),

Koss Corp. (KOSS), Naked Brand Group Ltd. (NKD), Nokia Corp. (NOK), Sundial Growers (SNDL), Tootsie Roll

Industries Inc. (TR), and Trivago N.V. (TRVG).Appendix A to Letter from counsel for Robinhood to Chairwoman

Waters and Chairman Green (Mar. 29, 2021); House Committee on Financial Services, Testimony of Vlad Tenev

Game Stopped? Who Wins and Loses When Short Sellers, Social Media, and Retail Investors Collide, Part III, 117

Cong. (May 06, 2021).

347

FINRA briefing with the Committee (Jul. 09, 2021).

348

Id.

FINRA

COMMENTED TO

OMMITTEE STAFF

THAT THEY CONSIDER USING PCO

RESTRICTIONS AS A RISK MITIGATION

TACTIC TO BE EXTRAORDINARY.

Securities ultimately lifted these PCO restrictions prior to market open on January 29, 2021,

relying instead on strict limits on the numbers of equity shares that its customers could purchase

in these and other symbols commencing on January 29, 2021 and PCO restrictions on fractional

purchases of 13 stocks.

349

On January 29, 2021, Robinhood Securities imposed position limits on the top 50 symbols

that the company assessed were driving its heightened Value-at-Risk charge, with only one equity

share per customer in aggregate permitted to be purchased for 35 symbols, and a maximum of five

for the rest.

350

In addition, for the entire duration that trade restrictions were in place for each of

these stocks, customers were prohibited from purchasing shares entirely if they already held more

than the total number of shares permitted to be purchased in accordance with each position limit.

By restricting the purchasing of meme stocks in this manner, Robinhood avoided extending

its PCO restrictions in name only, while virtually eliminating its customers’ ability to meaningfully

purchase meme stocks through extremely strict position limits. Indeed, for most customers who

had more than a de minimis existing position in these stocks (i.e., who owned a single share, or

five shares in the case of the far lesser number of stocks subject to a 5-share limit), the position

limits operated as de facto PCO restrictions, as such customers could not purchase any new shares

of these stocks and could only sell them.

By the time of market open on February 1, 2021, equity position limits remained in place

for AMC, BB, EXPR, GME, Genius Brands International, Inc. (GNUS), KOSS, Naked Brand

Group Ltd. (NAKD), and NOK, but had been removed for the other symbols.

351

During the

morning of February 2, 2021, equity position limits remained in place on AMC, EXPR, GME,

NAKD, and NOK, but had been lifted on BB, GNUS, and KOSS.

352

By market open on February

3, 2021, equity position limits had been removed on EXPR, NAKD, and NOK, but remained in

place on AMC and GME, which remained in place until February 4, 2021 after market hours, after

which all trading in these symbols was also reopened and unrestricted.

353

Robinhood also

maintained PCO restrictions on fractional shares for 13 stocks through February 10, 2021.

According to representatives for Robinhood, throughout the time that the company had

equity position limits in place, it regularly monitored and reviewed such equity position limits and,

as a general matter, modified its position limits on specific securities when it believed that it could

349

In addition, RHS had also introduced PCO restrictions on the purchase of fractional shares in American Airlines

Group Inc. (AAL), AMC Entertainment Holdings (AMC), BlackBerry Ltd. (BB), Bed Bath & Beyond Inc. (BBBY),

Castor Maritime Inc. (CTRM), Express, Inc. (EXPR), GameStop (GME), Koss Corp. (KOSS), Naked Brand Group

Ltd. (NAKD), Nokia Corp. (NOK), Sundial Growers, Inc. (SNDL), Tootsie Roll Industries, Inc. (TR) and Trivago

N.V. (TRVG). The last such restriction was removed on February 10. Appendix A to Letter from counsel for

Robinhood to Chairwoman Waters and Chairman Green (Mar. 29, 2021).

350

Appendix A to Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Mar. 29, 2021).

351

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Jul. 09, 2021).

352

Id.

353

Id. RHS also imposed limits on option contact purchases during this same time period, and all such restrictions

which were lifted by the evening of February 4. Options contacts purchases were limited with respect to: AAL, AMC

Entertainment Holdings (AMC), BlackBerry Ltd. (BB), Bed Bath & Beyond Inc. (BBBY), Express, Inc. (EXPR),

GameStop (GME), and Genius Brands International, Inc. (GNUS).

stay within pre-established internal risk limits after modifying or eliminating the relevant

restrictions and notified its customers through blog posts, emails, and cards in their mobile app.

354

Robinhood executives have acknowledged to Committee staff that these measures were

specifically designed to drive down the volatility in Robinhood’s trading book which resulted in

heightened Value-at-Risk charges and an Excess Capital Premium charge.

355

Robinhood

executives hoped that these restrictions would encourage the NSCC to reduce its collateral deposit

requirement.

356

In addition to implementing trading restrictions, Robinhood leadership immediately began

raising money on the morning of January 28, 2021. Robinhood successfully completed an

emergency capital raising and by the end of the day on January 29, 2021, and raised and received

approximately $1.5 billion of new funding in exchange for the issuance of convertible notes to

participating investors.

357

By the end of the day on February 1, 2021, Robinhood raised and

received a cumulative amount of approximately $2.2 billion in new funding. By the close of

February 2, 2021, it raised and received a cumulative amount of approximately $3.05 billion in

additional funding.

358

According to Robinhood’s internal models, the firm required approximately

$2.5 billion in additional capital in order to remove all trading restrictions, return to an unrestricted

trading environment, and maintain an additional capital cushion to be adequately prepared for

potential collateral deposit spikes driven by continued market volatility.

359

This amount of capital

was described by Robinhood’s CFO as sufficient to handle future shock scenarios and extreme

edge cases.

360

Additionally, by January 29, 2021, Robinhood’s start of day NSCC collateral deposit

requirement had declined to approximately $354 million, leaving Robinhood with a collateral

deposit surplus with the NSCC of approximately $1.08 billion.

361

The dramatic decline in

Robinhood’s collateral deposit requirement as compared to the prior day’s opening requirement of

$3.7 billion was likely due to the impact of the PCO restrictions that had been adopted on January

28, 2021. Because only sell orders were permitted, the overall net buy position of Robinhood’s

trading book had declined and the Value-at-Risk charge had decreased.

While the opening day NSCC collateral deposit requirement for Robinhood increased to

approximately $753 million on February 1, 2021, Robinhood continued to have an approximately

354

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Jul. 09, 2021).

355

Interview with J. Swartwout (Robinhood) (May 05, 2021).

356

Id.

357

Convertible notes are debt instruments that convert into equity securities under specified conditions as set forth in

the instrument creating the convertible notes. See Finding 1(n)

for further details about the Robinhood capital raising.

358

An additional amount of approximately $424.5 million in new funding came in during the remainder of that week,

and another $70 million was received on 16

February, which amounts to a total amount of new funding from the

Tranche I and Tranche II notes offering of approximately $3.55. billion. See Letter from counsel for Robinhood to

Chairwoman Waters and Chairman Green (Jun. 02, 2021).

359

Interview with J. Warnick (Robinhood) (Jun. 10, 2021).

360

Id.

361

Email and attachments to email from Counsel for Robinhood to Committee staff (May 20, 2021) (on file with the

Committee); RH_HFSC_00000866 (on file with the Committee).

$109.9 million surplus on deposit with the NSCC.

362

For the period from February 2, 2021, through

February 5, 2021, Robinhood’s start of day and end of day collateral deposit requirements ranged

between approximately $211 million and $314 million, which were well within the levels of capital

available to the firm. In fact, apart from Friday, February 5, 2021, when Robinhood had a collateral

deposit deficit of approximately $57.4 million, Robinhood maintained a surplus in its collateral

deposit account with the NSCC for the week of February 1, 2021.

363

Given that Robinhood’s collateral deposit requirements were well within manageable

levels by January 29, 2021, and the company had raised the capital that its models suggested was

sufficient to handle shock scenarios by the end of the day on February 2, 2021, it is unclear why

the company prohibited purchasing fractional shares of certain meme stocks, with the last

fractional share trading restriction being lifted on February 10, 2021, and maintained position

limits in GME and AMC securities until February 5, 2021. While Robinhood told Committee staff

that it maintained these restrictions for prudential reasons, by Robinhood’s own estimations, the

firm should have been able to return to an unrestricted trading environment by February 2, 2021,

at the latest.

364

Robinhood’s trading restrictions were most likely a direct consequence of inadequate

liquidity at Robinhood. Robinhood’s inability to anticipate and plan for the spike in its NSCC

collateral deposit requirements meant that it did not arrange for sufficient liquidity ahead of time

and thereafter did not meet its normal operating requirements to act as a clearing broker. This

meant that Robinhood had to adopt stringent trading restrictions to lower volatility within

parameters that it had the resources to fund. Even though Robinhood was subject to the DTCC’s

Enhanced Surveillance at the time, which theoretically entails the clearinghouse conducting more

thorough due diligence of the firm on a more regular basis, DTCC remained largely unaware that

Robinhood’s internal procedures for calculating collateral charges did not calculate the Excess

Capital Premium charge.

365

When asked whether Robinhood communicated any liquidity concerns

Robinhood may have had to the DTCC on the morning of January 28, 2021, Robinhood Chief

Legal Officer Dan Gallagher could not recall with specificity.

366

Ultimately, given a confusing collateral charge regime by the DTCC and incomplete

models within Robinhood, Robinhood did not have a sufficient capital cushion to support an

unrestricted trading environment for its customers during the Meme Stock Market Event and for

days afterwards. As a result, Robinhood had to adopt the most stringent and longest lasting trading

restrictions of any broker-dealer during the Meme Stock Market Event. Had Robinhood more

adequately anticipated heightened collateral deposit requirements or maintained an adequate

capital cushion ahead of time, it likely would have been able to adopt more modest restrictions.

With reduced or lighter restrictions, ordinary retail customers who use the Robinhood platform to

362

RH_HFSC_00000870 (on file with the Committee).

363

RH_HFSC_00000872 – 78 (on file with the Committee).

364

Interview with J. Swartwout (Robinhood) (Oct. 22, 2021).

365

DTCC briefing with the Committee (Jul. 06, 2021); DTCC briefing with the Committee (Jul. 22, 2021).

366

Interview with D. Gallagher (Robinhood) (Sept. 13, 2021).

access public markets might not have been frozen out of the restricted stocks for as long as they

were.

Key Finding #2: Broker-dealers facing the greatest operational and liquidity

concerns took the most expansive trading restrictions, although multiple

broker-dealers introduced trading restrictions for a variety of risk

management reasons during the Meme Stock Market Event.

The restrictions that

Robinhood implemented were

the most stringent and longest

lasting that any clearing broker

imposed during the Meme

Stock Market Event. This was

in line with a trend that

occurred throughout the

industry—namely that, with

one exception, firms that

confronted the most serious

liquidity problems imposed the most stringent restrictions.

Broker-dealers facing the greatest

operational and liquidity concerns took

the most expansive trading restrictions,

although multiple broker-dealers

introduced trading restrictions for a

variety of risk management reasons

during the Meme Stock Market Event.

Figure 39: Approximate Duration of Formal Trading Restrictions Placed on Equities

367

Jan 28 Jan 29-30 Feb 1 Feb 2 Feb 3-4

Jan 28 -

Feb 10

Robinhood

368

Placed PCO restrictions

on 13 stocks from market

open to close

Placed

position

limits

369

50 stocks

Placed

position

limits on

8 stocks

Placed position

limits on 5 stocks

Placed

position

limits on

AMC and

GME

Prohibited

fractional

purchases for

13 stocks

Interactive

Brokers

370

Placed PCO restrictions

on 22 stocks from about 8

a.m. through 10 p.m.

371

X X X X

Apex

372

Placed PCO restrictions

on AMC, GME, and

NOK from 11 am to 2 pm

X X X X X

Axos Clearing

373

X X X

Placed PCO

restrictions on

AMC, BB, GME,

and NOK from

market open to 3 pm

X X

E*TRADE

374

Placed PCO restrictions

on AMC and GME from

3 pm through close

X X X X X

Charles Schwab /

TD Ameritrade

375

X X X X X X

367

This chart summarizes in simplified form trading restrictions for those clearing brokers within the scope of the

Committee’s investigation. This chart does not include steps that broker-dealers took to limit the extension of credit

to customers, including increased margin requirements, short sale restrictions or restrictions placed on options trading,

some combination of which all the clearing brokers within the scope of its investigation adopted to some degree.

368

For further detail, see Finding 1.; The limits on GME and AMC were lifted on the evening of February 4, 2021,

after market hours. Only one symbol, not all 13 symbols, had a fractional PCO in place through February 10, 2021;

the remaining symbols had theirs lifted through February 3, 2021.

369

In this report, “position limits” refers to the practice by broker-dealers of imposing strict numerical limits on the

number of subject securities that customers can purchase on that broker-dealer’s trading platform.

370

According to representatives for Interactive Brokers, the firm restricted trading as a risk management measure to

protect the firm and customers from outsize losses during abnormal market behavior and not due to capital and

liquidity concerns. For further detail, see Finding 2(d)

371

“X” indicates that no action was taken to formally prohibit trading activity in equities.

372

For further detail, see Finding 2(b).

373

For further detail, see Finding 2(c).

374

E*TRADE’s trade restrictions stemmed from a technology outage on its platform rather than liquidity concerns or

difficulty meeting collateral requirements and therefore were involuntary. For further detail, see Finding 2(e

375

For further details, see Finding 2(d).

In addition to the regulatory halts, numerous broker-dealers voluntarily adopted trading

restrictions during the period of the Meme Stock Market Event as partially illustrated by the above

chart. Some firms devised restrictions tailored to the risk profile of their business, while clearing

brokers required other stock trading platforms to implement restrictions.

Larger and older broker-dealers were more likely to be robustly capitalized and therefore

better able to navigate market volatility by adopting more limited trading restrictions, both in terms

of the time that such restrictions were in effect for as well as in terms of the severity of the

restrictions.

376

Certain newer clearing brokers had more limited financial resources and available

liquidity, and in some cases were forced to adopt more restrictive measures.

Interactive Brokers represents a notable outlier to this general trend. Interactive Brokers

maintained sizeable net capital reserves during the Meme Stock Market Event, but nonetheless

stated that it voluntarily enacted trading restrictions to protect its customers and its firm during a

period of acute volatility.

377

Interactive Brokers specifically characterized the market during this

time as “a volatile and unstable marketplace”, which affected its risk management approach during

the Meme Stock Market Event.

378

Several broker-dealers voluntarily placed trading restrictions on meme stocks amid the

heightened activity. Individual broker-dealers decide to impose trading restrictions according to

their own risk management calculus with limited oversight and review of such decisions by

applicable regulators. As part of their risk management practices, clearing brokers sometimes

implement various trading restrictions to manage the amount of risk in their book of business to

safeguard against the risk of absorbing losses from failed settlement by individual traders and

customers. Such measures include increasing margin requirements for purchasing options,

restricting options purchases, and limiting short sales. Position limits, or a restriction placed by the

broker-dealer on the number of shares a customer can buy or sell are rarer.

379

PCO restrictions,

whereby investors are only allowed to close or reduce existing positions, are considered

extraordinary.

380

Many broker-dealers adopted a range of relatively routine trading restrictions to mitigate

the adverse effects of market volatility during the Meme Stock Market Event. However, a subset

of clearing brokers—those that experienced actual or potential liquidity challenges due to the

magnitude of unanticipated NSCC collateral deposit requirements—generally took significantly

more stringent countermeasures.

376

In this regard, it should be noted that trade restrictions implemented by E*TRADE were the result of information

technology problems rather than liquidity and financial soundness concerns.

377

Interactive Brokers, FAQs: Securities subject to Special Requirements, Interactive Brokers (accessed Sept. 17,

2021).

378

Id.

379

FINRA briefing with the Committee (Jul. 09, 2021).

380

Id.

a. Apex directed Webull, Ally Invest, SoFi, and hundreds of other firms that

clear their trades through Apex to prohibit purchases of certain highly

volatile stocks.

Webull operates as an introducing broker.

381

In such capacity, it does not clear its own

trades and entered into a Clearing Agreement with Apex pursuant to which Apex opens and

maintains accounts and executes, clears, and settles securities transactions that are initiated by

Webull’s customers using Webull’s trading platform.

382

Apex provides these same clearing

services to many other introducing brokers, including Ally Invest, Betterment Securities, M1

Finance, Marcus by Goldman Sachs & Co., SoFi Securities, Stash Capital, Tastyworks Inc.,

TradeZero America Inc, and hundreds more.

383

Webull and the other introducing brokers that clear

through Apex are reliant on Apex to process, clear, and settle customer trades and would be unable

to function without Apex, or another external services provider, performing these functions on

their behalf.

384

Apex, as a clearing broker, is an NSCC member firm and is responsible for

maintaining sufficient collateral deposits with the NSCC in order to meet its clearing fund

requirements and support the trading activities of the customers of all of its introducing broker

clients. Webull’s Clearing Agreement with Apex permits Apex to mandate that Webull impose

trading restrictions at Apex’s discretion. Apex has such contractual arrangements in place with the

other introducing brokers that are its customers as well.

385

On January 28, 2021, at 10:30 a.m. EST, Webull received an emergency notice via email

from Apex expressly instructing it that GME, AMC, and KOSS securities be placed into

“liquidation only” statuses on their trading systems (i.e., a PCO restriction).

386

The restriction was

stated to apply to “both equities and all options series, most importantly January 29, 2021

expiration.”

387

These restrictions effectively prohibited Webull from accepting new purchase

positions in AMC, GME, and KOSS stocks and options.

388

Apex employees confirmed to

Committee staff that the email notice mandating liquidation only settings for GME, AMC, and

KOSS was transmitted to each of the introducing brokers to which Apex provides clearing

services.

389

Webull complied with this instruction and at 11:30 a.m. EST announced the imposition

381

Webull briefing with the Committee (May 12, 2021).

382

Interview with A. Denier. (Webull) (May 20, 2021).

383

APEX-HFS000018-19 (on file with the Committee).

384

Webull briefing with the Committee (May 12, 2021); Interview with Chief Compliance Officer (Apex Clearing

Corporation) and Chief Corporate Development and Legal Officer (Peak 6 Investments), at 10 (May 20, 2021).

385

Interview with Chief Compliance Officer (Apex Clearing Corporation) and Chief Corporate Development and

Legal Officer (Peak 6 Investments), at 20, 45-46 (Jun. 16, 2021).

386

APEX-HFS000001 (on file with the Committee); Interview with Chief Compliance Officer (Apex Clearing

Corporation) and Chief Corporate Development and Legal Officer (Peak 6 Investments), at 21 (May 20, 2021).

387

APEX-HFS000001 (on file with the Committee). Positions in these same stocks had been previously set to 100%

margin and Apex.

388

Id.

389

Interview with Chief Compliance Officer (Apex Clearing Corporation) and Chief Corporate Development and

Legal Officer (Peak 6 Investments), at 21 (May 20, 2021).

of these instructions via posts on social media, specifically on Webull’s Facebook page and via its

Twitter account.

390

Webull did not distribute notice of these restrictions in any other manner.

391

Figure 40: Twitter post from Webull on January 28, 2021

392

390

Exhibit A to Letter from General Counsel for Webull to Chairwoman Waters and Chairman Green (Feb. 09, 2021).

391

Id.

392

Letter and produced Exhibit A from General Counsel for Webull to Chairwoman Waters and Chairman Green

(Feb. 09, 2021).

At approximately 1:54 p.m. EST, Apex distributed an emergency update to each of its

introducing brokers, including Webull, confirming that it was removing the liquidation only

restriction for GME, AMC, and KOSS, with the exception of short sells and options that had a

January 29, 2021 expiration.

393

Webull thereafter removed the trading restrictions, which lasted

for approximately 193 minutes in total.

394

At approximately 2:42 p.m. EST, Webull posted an

update to its Twitter and Facebook posts announcing the lifting of the restrictions which stated “!!

Update GME, AMC and KOSS are no longer restricted!!”.

395

Except for TradeZero America Inc.,

Apex confirmed that all the other introducing brokers that are its clients complied with its order to

cease accepting orders for the restricted securities.

396

b. Apex instructed its broker-dealer clients to restrict trading because the

company was concerned about the magnitude of a potential collateral deposit

request from the NSCC.

Apex sent instructions to the introducing brokers it works with to restrict GME, AMC, and

KOSS after receiving notice of a large collateral deposit requirement from the NSCC on the

morning of January 28, 2021.

397

Prior to market open on each trading day, each NSCC member

firm receives an automated deposit notice outlining that member firm’s clearing fund deposit

requirement for the trading day.

398

In addition to this morning clearing fund requirement notice,

NSCC makes estimated margin requirements available throughout the day in 15-minute intervals

outlining the total potential deposit requirement applicable to that member firm based on changes

in the relevant firm’s portfolio.

399

These updated estimates are referred to in the industry as

393

APEX-HFS000003 (on file with the Committee).

394

Exhibit A to Letter from General Counsel for Webull to Chairwoman Waters and Chairman Green (Feb. 09, 2021).

Functionally, it is the introducing broker that can permit or restrict trading for individual trading clients and, therefore,

once Apex communicated its directives to restrict trading and then lift trading restrictions on the relevant stocks, each

introducing broker would have implemented such instructions in accordance with its own practices. As a result, each

introducing broker would have imposed and lifted restrictions at different times. From a retail or end-customer

perspective, the precise length of the trading restrictions that impacted them would therefore be determined by which

introducing broker they held their accounts with.

395

Id. Webull’s original Twitter post announcing the restrictions was deleted between 4:25 p.m. EST and 4:26 p.m.

EST.

396

Letter from counsel for Apex Clearing Corporation to Committee staff (Aug. 31, 2021). Although TradeZero Inc.

refused to voluntarily comply with Apex’s directive, had it been necessary to do so, Apex would have had the technical

ability, had it been necessary to do so, to cease processing trades in the restricted securities originating from that

introducing broker.

397

APEX-HFS000005 (on file with the Committee).

398

DTCC, NSCC Equity Clearing & Settlement Overview: Presentation to House Staff, at slide 6 (Jun. 17, 2021).

399

DTCC briefing with the Committee (Jun. 17, 2021). Under NSCC rules, the clearinghouse has discretionary

authority to issue an intraday margin call to any of its members, demanding a member firm deposit additional collateral

to adequately manage the overall risk of the member firm’s cleared portfolio, but it is not required to do so. Slices

therefore preview potential requirements in this regard. If an intraday margin call is issued, member firms are obligated

to deposit additional collateral with the NSCC within one hour of the demand.

“slices.”

400

The “slices” are the updates to the calculator in the NSCC’s member portal. Slices are

not sent to members but is accessed by most members’ risk management departments throughout

the day. The calculator covers core clearing fund component charges: those that are based only on

the portfolio and are designed to cover portfolio risk. The calculator does not cover non-core

charges, such as the ECP charge.

401

On the morning of January 28, 2021, prior to market open, Apex received its daily

automated NSCC deposit requirement notice which showed a collateral deficit of approximately

$68.2 million, well within the means of Apex to satisfy and, accordingly, this deposit notice did

not elicit any non-routine reaction from Apex personnel.

402

At 10 a.m. EST, however, Apex

accessed the NSCC’s portal and viewed a slice (the “10 AM Slice”) that showed a total potential

collateral deposit requirement that had increased exponentially from approximately $68.2 million

to approximately $1 billion, with a Value-at-Risk charge of $434.9 million. While the Slice did

not include information on a potential Excess Capital Premium charge, Apex calculated that it

would owe an Excess Capital Premium charge of $562.4 million based upon the Value-at-Risk

charge contained in their 10 AM Slice.

403

Under NSCC rules, the clearinghouse has discretionary authority to issue an intraday

margin call to any of its members, demanding a member firm deposit additional collateral to

adequately manage the overall risk of the member firm’s trading book.

404

If an intraday margin

call is issued, member firms are obligated to deposit additional collateral with the NSCC within

one hour of the demand.

405

Thus, Apex officials were on notice once they reviewed the 10 AM

Slice that the NSCC could demand the deposit of additional collateral.

406

400

DTCC briefing with the Committee (Jun. 17, 2021). Typically, the largest component of such charges during

ordinary trading days is the VaR charge, which represents risk associated with unsettled trades in a member firm’s

cleared portfolio. In addition, NSCC rules provide for the assessment of an Excess Capital Premium charge when

“core” margin charges for a member firm are greater than such firm’s “excess net capital” (as specified in FINRA

FOCUS Reports). In such instances, the NSCC calculates an Excess Capital Premium charge, which it requires in

addition to its baseline clearing fund requirement. Because the Excess Capital Premium charge is based on a ratio that

compares the amount by which “core” charges exceed excess net capital, it can increase sharply if a firm’s “core”

charges greatly exceed excess net capital. The purpose of the Excess Capital Premium charge is to penalize, and

therefore attempt to deter, member firms from accumulating excessive amounts of risk in their cleared portfolio as

represented by the VaR charge and other “core” charges.

401

Email and produced attachment from General Counsel for DTCC to Committee staff (Jun. 19, 2022).

402

APEX-HFS000005 (on file with the Committee).

403

APEX-HFS000009 (on file with the Committee); Interview with Chief Compliance Officer (Apex Clearing

Corporation) and Chief Corporate Development and Legal Officer (Peak 6 Investments), at 14 and 16 (Jun. 16, 2021).

Interviews with Committee staff have revealed that margin requirements had been increased by the NSCC to 118%

of notional value for AMC and 80% of notional value for GameStop (GME) by the morning of January 28, 2021.

Ordinarily, margin requirements are a fraction of the overall notional value of a trade, but due to increased margin

requirements for these stocks that were precipitated by the extreme market volatility, this would mean that for AMC,

for every dollar that a customer purchased in that symbol, clearing firm members would be required to deposit $1.18.

For GameStop (GME), every dollar that a customer purchased would necessitate an $0.80 deposit to be maintained

by the member firm.

404

DTCC briefing with the Committee (Jun. 17, 2021).

405

Id.

406

APEX-HFS000009 (on file with the Committee); DTCC briefing with the Committee (Jun. 17, 2021).

Apex grew concerned that they may be required to meet their full collateral deposit

requirement, both the $434.9 million Value-at-Risk charge from their portal and the additional

Excess Capital Premium charge of $562.4 Apex had calculated internally at any moment, and they

would have a maximum of one hour to meet the margin call once issued.

407

At 10:15 a.m. EST

and 10:30 a.m. EST, Apex reviewed additional slices that continued to show a total potential

deposit requirement of more than $1 billion.

408

At 10:45 a.m. EST, Apex reviewed a slice

indicating a potential requirement of approximately $1.06 billion, largely consisting of a Value-

at-Risk charge of approximately $325 million and what Apex calculated to be an Excess Capital

Premium charge that had increased to approximately $607.9 million.

409

Upon receiving the 10 AM Slice, Apex personnel felt that it would be challenging for them

to meet a discretionary intraday margin call in the vicinity of $1 billion within the normal one-

hour time frame.

410

Upon receiving what appeared to be anomalous slice data, it quickly reached

out to NSCC to and confirmed that the numbers provided in Apex’s portal were accurate (which

did not include the Excess Capital Premium charge calculated internally by Apex).

411

Senior Apex

personnel, expecting trading activity to increase throughout the day and drive the requirements

even higher, decided to impose the trading restrictions on AMC, GME, and KOSS.

412

Apex

reviewed the detailed NSCC files outlining its collateral charges and estimated that at the time that

it imposed its restrictions, pending settlements for these three symbols accounted for

approximately 90% of Apex’s total potential NSCC deposit requirement.

413

Apex’s CEO, Bill

Capuzzi, approved of the decision to impose trading restrictions prior to the distribution of the

emergency notice via email that was sent to Apex’s clients.

414

407

Email from counsel for Apex to Committee staff (Jun. 20, 2022).

408

APEX-HFS000009-11 (on file with the Committee),

409

APEX-HFS000012 (on file with the Committee),

410

Interview with Chief Compliance Officer (Apex Clearing Corporation) and Chief Corporate Development and

Legal Officer (Peak 6 Investments), at 20-21 (May 20, 2021).

411

Id.

412

Id.

413

Id. at 21.

414

Id. at 44-45.

Figure 41: Emergency notice Apex sent to customers

415

Around the same time, senior Apex personnel began considering how to inject additional

capital into the firm given that Apex could have been the recipient of an intraday margin call from

the NSCC at any moment.

416

Apex personnel were concerned that if they were not able to meet

such a prospective intraday margin call within an hour, the application of existing NSCC rules

could have resulted in the cessation of Apex’s clearing activities by the NSCC.

417

In other words,

were the intraday margin call to materialize and were Apex unable to meet it, Apex may have been

restricted from continuing its clearing operations, which in turn, could have prevented customers

of each of the introducing brokers that Apex clears for from executing trades. Apex personnel

reached out to the firm’s primary shareholder, Peak6 Investments LLC, which ultimately infused

additional capital into Apex in the amount of $100 million on January 29, 2021 and another $50

million on February 2, 2021.

418

However, Apex’s capital raising activities became less pressing

415

APEX-HFS000001 (on file with the Committee).

416

Interview with Chief Compliance Officer (Apex Clearing Corporation) and Chief Corporate Development and

Legal Officer (Peak 6 Investments), at 20-21 (May 20, 2021).

417

Id. at 21.

418

APEX-HFS000013 (on file with the Committee).

after they received another slice at 11 a.m. EST (the “11 AM Slice”), which outlined a dramatically

lower collateral requirement.

419

Based on the information in the 11AM slice, Apex calculated that

it would not be subject to an Excess Capital Premium charge. Apex subsequently confirmed with

the NSCC on a phone call that the lower amount was accurate.

420

Apex officials represented to Committee staff that between a capital infusion from their

parent company and the use of unsecured bank credit facilities, the company would have

ultimately been successful in raising the necessary capital to meet the peak potential intraday

margin call of over $1 billion within the one-hour time frame imposed by the NSCC.

421

Peak6

ultimately injected $150 million of additional capital into Apex to bolster Apex’s ability to meet

the NSCC collateral requirements, given Apex’s expectation that extreme market volatility

would continue for the foreseeable future.

422

Once Apex confirmed that there would be no

Excess Capital Premium charge, the firm distributed an update to its introducing broker clients

confirming removal of the liquidation only policy to its introducing brokers.

423

Once these

restrictions had been removed, Apex did not reimpose them at a later stage and did not introduce

any limits on any customer’s initiation of new long positions in any security.

424

419

Interview with Chief Compliance Officer (Apex Clearing Corporation) and Chief Corporate Development and

Legal Officer (Peak 6 Investments), at 22 (May 20, 2021).

420

Id.

421

Interview with Chief Compliance Officer (Apex Clearing Corporation) and Chief Corporate Development and

Legal Officer (Peak 6 Investments), at 38-40, 55 (Jun. 16, 2021).

422

Id. at 25 (Jun. 16, 2021); Interview with Chief Compliance Officer (Apex Clearing Corporation) and Chief

Corporate Development and Legal Officer (Peak 6 Investments), at 55 (May 20, 2021). Apex also eventually increased

the aggregate amount of its available credit facilities by $250 million to better prepare for the prospect of large NSCC

collateral requirements in the future.

423

APEX-HFS000003-4 (on file with the Committee); Interview with Chief Compliance Officer (Apex Clearing

Corporation) and Chief Corporate Development and Legal Officer (Peak 6 Investments), at 18-19 (Jun. 16, 2021).

424

Interview with Chief Compliance Officer (Apex Clearing Corporation) and Chief Corporate Development and

Legal Officer (Peak 6 Investments), at 18-19 (Jun. 16, 2021).

Figure 42: Notice sent to Apex clients informing them of the removed restrictions

425

The 11 AM Slice showed a dramatically reduced total potential deposit requirement of

approximately $164.8 million. It consisted of a Value-at-Risk charge of approximately $112.2

million and other miscellaneous charges,

426

and based on the information in the 11AM slice, Apex

calculated that it would not be subject to an Excess Capital Premium charge. $0.

427

Apex later conducted an internal investigation and discovered what led to the elimination

of its Excess Capital Premium charge, as communicated in the 11 AM Slice.

428

Its internal review

revealed an imbalance of trading activity in Apex’s trading book from January 27, 2021, the day

before, caused by a single large one sided trade when a proprietary trading firm both sold and

425

APEX-HFS000003-4 (on file with the Committee).

426

APEX-HFS000012 (on file with the Committee)

427

Id.

428

Letter from counsel for Apex Clearing Corporation to Committee (Jul. 9, 2021); Interview with Chief Compliance

Officer (Apex Clearing Corporation) and Chief Corporate Development and Legal Officer (Peak 6 Investments), at

11 and 23 (May 20, 2021).

purchased approximately $385 million of AMC.

429

The two trades occurred within less than a

second of one another, but given the extreme volatility in AMC, the buy order went through but

the sell side of the trade required manual intervention because the price of the stock had changed

so considerably in the fraction of a second between the buy and the sell order.

430

Apex’s overnight

process for clearing trades require manual verification for trades that involve both a buy order and

sell order in rapid succession if the spread between the buy and sell order is greater than $10 net.

431

This created a temporary imbalance in trading activity, i.e., a net buy position, which

represents greater risk in a trading book and resulted in the NSCC assessing a heightened Value-

at-Risk charge to Apex.

432

Once Apex’s operations team became aware of the need to manually

acknowledge the sell-side of the trade, they promptly approved the trade.

433

The acknowledgement

eliminated the imbalance in trading activity, greatly lowering the company’s Value-at-Risk charge,

and eliminated the Excess Capital Premium charge in the firm’s internal calculations.

434

According to Apex’s representations to the Committee, the firm restricted trading in meme

stocks for a period of time on January 28, 2021 after receiving an anomalous slice and based upon

an understanding that the firm may be required to pay an intraday charge in aggregate of over $1

billion, including a calculated Excess Capital Premium charge of $562.4.

435

However, according

to the DTCC, the clearinghouse would not have been permitted to include an Excess Capital

Premium charge in any intraday margin call to Apex – any increased Excess Capital Premium

charge would have been collected the following morning.

436

At the time, Apex did not know

whether the DTCC would have the discretion to assess the Excess Capital Premium charge on the

intraday charge or not. Regardless, Apex commented to the Committee that whether the Excess

Capital Premium charge was assessed during an intraday charge or applied the next morning it

would not have changed their actions – company leadership still believed they were going to have

to come up with more capital.

437

429

Letter from counsel for Apex Clearing Corporation to Committee (Jul. 9, 2021); Interview with Chief Compliance

Officer (Apex Clearing Corporation) and Chief Corporate Development and Legal Officer (Peak 6 Investments), at

11 and 23 (May 20, 2021). This particular trade was from a proprietary trading firm engaging in market-making

activity who initiated a near simultaneous buy order and sell order of an equivalent amount, i.e., approximately 23

million shares of AMC Entertainment Holdings (AMC) long and 23 million shares of AMC Entertainment Holdings

(AMC) short.

430

Interview with Chief Compliance Officer (Apex Clearing Corporation) and Chief Corporate Development and

Legal Officer (Peak 6 Investments), at 11-13 (Jun. 16, 2021).

431

Id. at 23.

432

Id.

433

Id.

434

This report refers to Excess Capital Premium charge “as assessed” Excess Capital Premium charge to indicate that

an Excess Capital Premium charge was notified to the relevant member-firm consistent with NSCC rules. Apex was

assessed an Excess Capital Premium charge of approximately $30.5 million on January 29, 2021, but this charge was

subject to the across-the-board NSCC waiver described in detail in this report.

435

Email from counsel for Apex to Committee staff (Jun. 20, 2022).

436

Email and attachment from General Counsel for DTCC to Committee staff (Jun. 20, 2022).

437

Email from counsel for Apex to Committee staff (Jun. 21, 2022).

c. Axos prohibited new opening transactions in certain meme stocks on

February 2, 2021, due to liquidity concerns, and feared that without taking

such measures it would likely exhaust its available funding sources.

Axos Clearing LLC (Axos), a subsidiary of Axos Financial, Inc. is a clearing broker that

serves retail-oriented introducing brokers, some of whom are rapidly growing online trading

firms.

438

Most customer trades initiated through Cash App Investing, LLC and others were cleared

and settled through Axos in January and February 2021.

439

Starting at approximately 9:30 a.m.

EST on February 2, 2021, nearly a week after Robinhood and others implemented their trading

restrictions, Axos prohibited the opening of new positions, whether long buys or short sales, in

AMC, GME, BB, and NOK.

440

These restrictions were lifted at approximately 3:00 p.m. EST of

the same day.

441

Axos, like Robinhood, was also at the time subject to Enhanced Surveillance by the NSCC,

and acted to limit trading in these securities because the NSCC indicated to Axos that it would

issue the firm an Excess Capital Premium charge as of February 2, 2021.

442

Beginning January 29,

2021, the NSCC raised Axos’s collateral deposit requirements due to increased trading volume in

the relevant securities that was being originated by Axos’s introducing firms.

443

On January 29,

2021, Axos’s NSCC collateral deposit requirement peaked at approximately $95 million and on

February 1, 2021, peaked at approximately $153 million.

444

While Axos had been assessed an

Excess Capital Premium charge on January 28, 2021, this charge was ultimately waived by the

NSCC.

445,446

On February 1, 2021, however, Axos was informed by the NSCC that the

clearinghouse intended to apply an Excess Capital Premium charge to the firm the next day, as

Axos’s collateral deposit requirements still exceeded Axos’s excess net capital.

447

The NSCC conveyed to Axos that it would not apply the full amount of the Excess Capital

Premium charge that could be levied on the firm, but the NSCC would exercise its discretion to

apply some amount of these charges.

448

In response, Axos informed the NSCC that should any

438

Axos Clearing, What We Do (accessed Feb. 03, 2022). Axos also serves institutional trading firms and proprietary

trading firms.

439

Cash App Investing briefing with the Committee (Jul. 30, 2021). In Cash App Investing’s case, it has engaged

DriveWealth to provide various trade processing services, which entered into a clearing agreement with Axos to clear

and settle trades that it processes.

440

Letter from Chief Compliance Officer of Axos Clearing LLC to Sr. Director of Risk Monitoring at FINRA (Feb.

22, 2021).

441

Id.

442

Id. Axos briefing with the Committee (Sept. 20, 2021); DTCC briefing with the Committee (Jul. 22, 2022).

443

Letter from Chief Compliance Officer of Axos Clearing LLC to Sr. Director of Risk Monitoring at FINRA (Feb.

22, 2021).

444

Id.

445

Email and attachment from counsel for Axos Clearing LLC to the Committee (Nov. 05, 2021); DTCC briefing

with the Committee (Jul. 22, 2022).

446

See Finding 4(a) for further details regarding NSCC’s across the board waiver of Excess Capital Premium charges,

which it decided to maintain in place through February 1, 2021.

447

Email and attachment from counsel for Axos Clearing LLC to the Committee (Nov. 05, 2021).

448

Id.

amount of Excess Capital Premium charge be applied to the firm, Axos would likely exceed its

available funding sources.

449

Axos conveyed to the NSCC that the firm would impose PCO

restrictions on its introducing firms (and ultimately the customers of its introducing brokers) in

securities that contributed disproportionately to the firm’s Value-at-Risk charges if any Excess

Capital Premium charges were assessed, in this case AMC, GME, BB, and NOK.

450,451

Axos and

the NSCC concluded the call and scheduled a second call for 8:00AM EST on the following

morning to continue discussions, by which time the NSCC could provide more specifics on the

contemplated Excess Capital Premium charge.

452

On the evening of February 1, 2021, Axos had separate dialogues with both FINRA and

the SEC regarding Axos’s liquidity and its ability to fund its margin requirements at the NSCC.

453

Axos informed the SEC and FINRA that it planned to manage any risks to its liquidity by

restricting introducing brokers and their customers from opening new positions in the most volatile

securities that were driving its margin requirements.

454

According to Axos, neither FINRA nor the

SEC provided any specific guidance on this plan.

455

At approximately 8:00 AM EST on February

2, 2021, the NSCC proceeded to apply an Excess Capital Premium charge to Axos, resulting in a

total margin requirement of $247,041,600.

456

Axos informed the NSCC that while it was able to

meet the $247 million requirement, the company was not certain about its ability to meet additional

increases from the NSCC, which is why it implemented new position restrictions.

457

d. Larger and older broker-dealers adopted a range of trading restrictions

during the Meme Stock Market Event, but such restrictions were generally

less severe than those of smaller or newer firms due to limited concerns about

broker-dealer liquidity and capitalization.

Charles Schwab & Co. Inc. (Schwab) and TD Ameritrade Inc. and TD Ameritrade

Clearing, Inc. (both registered broker-dealers that are collectively referred to herein as “TDA”),

which are each under common ownership and control and are part of the publicly listed Charles

Schwab Corporation, responded to market events during the Meme Stock Market Event by

designating nineteen (19) securities that experienced increased trading volume (Schwab/TDA

449

Id.

450

Letter from Chief Compliance Officer of Axos Clearing LLC to Sr. Director of Risk Monitoring at FINRA (Feb.

22, 2021).

451

Email and attachment from counsel for Axos Clearing LLC to the Committee (Nov. 05, 2021).

452

Id.

453

Id.

454

Id.

455

Id. Axos briefing with the Committee (Sept. 20, 2021).

456

Letter from Chief Compliance Officer of Axos Clearing LLC to Sr. Director of Risk Monitoring at FINRA (Feb.

22, 2021).

457

Email and attachment from counsel for Axos Clearing LLC to the Committee (Nov. 05, 2021).

Restricted Securities

458

) as non-marginable.

459

This meant that a 100% margin requirement was in

place in order for customers to purchase the relevant Schwab/TDA Restricted Securities.

460

other words, the Schwab/TDA Restricted Securities were prohibited from being purchased on

margin and could not be used as collateral for a margin loan.

461

Schwab first changed the margin requirement for GameStop from 70% to 100% on January

13, 2021 and raised the margin requirements for the other eighteen (18) Schwab/TDA Restricted

Securities during the week of January 25, 2021.

462

TDA similarly began raising the margin

requirement for GME on January 13, 2021 and raised margin requirements on the Schwab/TDA

Restricted Securities during the week of January 25, 2021.

463

Schwab and TDA also ceased

accepting short sale orders with respect to most of the Schwab/TDA Restricted Securities and

limited certain advanced options strategies with respect to the Schwab/TDA Restricted Securities

that involved leverage.

464

Schwab and TDA believed that under the circumstances these orders

could expose their customers and respective firms to significant potential losses.

465

For instance,

both firms prohibited clients from selling naked call options on certain securities during the

Relevant Period.

466

Importantly, neither firm restricted customers from either purchasing an equity security or

from selling an equity security already owned by customers during the Meme Stock Market Event

458

The Schwab Restricted Securities included: AMC Entertainment Holdings, Inc. (AMC); Bed Bath & Beyond Inc.

(BBBY); Blackberry Limited (BB); Cel-Sci Corp. (CVM); Dillard’s Inc. (DDS); Express, Inc. (EXPR); Fossil Group,

Inc. (FOSL); GameStop Corp. (GME); GSX Techedu Inc. (GSX); iRobot Corp. (IRBT); Koss Corp. (KOSS); Naked

Brand Group Ltd. (NAKD); National Beverage Corp. (FIZZ); National CineMedia Inc. (NCMI); Nokia Corp. ADR

(NOK); Northern Dynasty Minerals Ltd. (NAK); Tootsie Roll Industries Inc. (TR); Urban One, Inc. (UONE); VIR

Biotechnology Inc. (VIR).

459

Letter from counsel for Schwab/TDA to Chairwoman Waters (Mar. 03, 2021). The Charles Schwab Corporation

is the indirect parent of Schwab. TD Ameritrade Holding Corporation is the indirect parent of both TD Ameritrade

Inc. and TD Ameritrade Clearing, Inc.

460

Id.

461

Charles Schwab, Schwab Issues Statement About Recent Trading Activity (Jan. 29, 2021).

462

Letter from counsel for Schwab/TDA to Chairwoman Waters (Apr. 23, 2021).

463

Id.

464

Charles Schwab, Schwab Issues Statement About Recent Trading Activity (Jan. 29, 2021); Letter from counsel for

Schwab/TDA to Chairwoman Waters and Chairman Green (Mar. 03, 2021).

465

Charles Schwab, Schwab Issues Statement About Recent Trading Activity (Jan. 29, 2021); Letter from counsel for

Schwab/TDA to Chairwoman Waters and Chairman Green (Mar. 03, 2021).

466

Charles Schwab, Schwab Issues Statement About Recent Trading Activity (Jan. 29, 2021). Increasing margin

requirements when necessary is consistent with existing FINRA guidance and rules relating to member-firm risk

management procedures. Indeed, member firms are required to have procedures in place to formulate their own

“house” margin requirements and where appropriate institute higher margin requirements for individual securities or

customer accounts.

See FINRA, FINRA Reminds Member Firms of Their Obligations Regarding Customer Order

Handling, Margin Requirements and Effective Liquidity Management Practices During Extreme Market Conditions

(Mar. 18, 2021) (Regulatory Notice 21-12).

and did not place limitations on the purchase or sale of basic options contracts.

467

The restrictions

adopted for Schwab/TDA Restricted Securities were applied equally to all of their customers.

468

Schwab and TDA lifted certain risk management controls on their restricted securities

during the week of February 8, 2021.

469

On February 8, 2021, Schwab and TDA permitted short

sales of restricted securities if shares were available for loan pursuant to Regulation SHO and

removed the restrictions on advanced options strategies for the following securities: BBBY,

National Beverage Corp. (FIZZ), Fossil Group Inc. (FOSL), iRobot Corp. (IRBT), KOSS, NAKD,

NOK, Tootsie Roll Industries, Inc. (TR) and Urban One, Inc. (UONE).

470

The restrictions on

advanced options strategies for the remaining restricted securities were removed as of February

22, 2021. As of April 19, 2021, Schwab and TDA still had a 100% margin requirement In place to

purchase GME and AMC.

471

Interactive Brokers LLC (Interactive Brokers) is an SEC-registered broker-dealer that

provides execution and clearing services for markets in the United States and elsewhere.

Interactive Brokers is a group company of Interactive Brokers Group Inc., a large, public company

listed on NASDAQ, which, through various operating subsidiaries around the world, operates a

global brokerage business.

472

In response to the meme stock volatility, Interactive Brokers

imposed a range of trading restrictions on select symbols. However, according to Interactive

Brokers, these measures were not precipitated by capital or liquidity requirements. In particular,

as of mid-day on January 27, 2021, Interactive Brokers put AMC, BB, EXPR, GME, and KOSS

options trading into liquidation only, meaning that new options positions could no longer be

opened.

473

It also increased margin requirements on both long and short positions in these same

symbols requiring 100% margin for long stock positions and 300% margin for short stock

positions.

474

Interactive Brokers lifted trading restrictions on these options, as well as other options, on

January 29, 2021.

475

However, Interactive Brokers reimposed liquidation only restrictions on

options trading in AMC, BB, EXPR, and GME from 12:34 a.m. EST on January 30, 2021 until

8:35 p.m. EST on January 31, 2021.

476

For general risk management, the firm also prohibited short

sales in FOSL, BB, NOK, KOSS, AMC, and BBBY from 8:51 a.m. EST on January 28, 2021 until

12:16 p.m. EST on February 3, 2021; in AeroCentury Corp. (ACY), Janone Inc. (JAN), and,

467

Letters from counsel for Schwab/TDA to Chairwoman Waters and Chairman Green (Mar. 03, 2021).

468

Letters from counsel for Schwab/TDA to Chairwoman Waters and Chairman Green (Mar. 03, 2021); Letter from

counsel for Schwab/TDA to Chairwoman Waters and Chairman Green (Sept. 03, 2021). The limitation on advanced

option strategies was not implemented with respect to independent registered investment advisors that utilize

Schwab’s custody platform to manage accounts held by Schwab clients.

469

Letters from counsel for Schwab/TDA to Chairwoman Waters and Chairman Green (Apr. 23, 2021).

470

Letters from counsel for Schwab/TDA to Chairwoman Waters and Chairman Green (Apr. 23, 2021).

471

Letters from counsel for Schwab/TDA to Chairwoman Waters and Chairman Green (Apr. 23, 2021).

472

Interactive Brokers, About the Interactive Brokers Group (Jan 01, 2022).

473

Interactive Brokers, Interactive Brokers Takes Action on Actively Traded Symbols (Jan. 28, 2021).

474

Interactive Brokers, Interactive Brokers Takes Action on Actively Traded Symbols (Jan. 28, 2021).

475

Interactive Brokers, Interactive Brokers Lifts All Trading Restrictions on Options (Jan. 30, 2021).

476

Appendix A to Letter from Chief Counsel of Investigations and Enforcement at Interactive Brokers, to Chairwoman

Waters and Chairman Green (Feb. 19, 2021).

Monopar Therapeutics Inc. (MNPR) from 8:12 a.m. EST on January 28, 2021 until 12:16 p.m.

EST on February 3, 2021; and GME from 9:29 a.m. EST on January 25, 2021 until 8:20 a.m. EST

on January 26, 2021 and again from 8:51 a.m. EST until 12:16 p.m. EST on February 3, 2021.

477

Interactive Brokers also placed several symbols into PCO for approximately nine hours.

478

With exceptions, these PCO restrictions were introduced by Interactive Brokers at 10:50 a.m. EST

on January 28, 2021, and were removed by 8:23 p.m. EST the same day.

479

Interactive Brokers explained to Committee staff that the company’s PCO restrictions on

January 28, 2021 were motivated by general risk management concerns rather than liquidity or

capitalization concerns.

480

On January 28, 2021, Interactive Brokers’ daily NSCC collateral

deposit requirement was approximately $1.3 billion, and the firm had reported excess capital of

approximately $4.4 billion.

481

Interactive Brokers stated that it restricted trading “to protect the

firm and its customers from incurring outsized losses due to wild swings in price in a volatile and

unstable marketplace.”

482

Interactive Brokers expressed concern about the effect of the high

volatility on the clearinghouses, broker-dealers, and market participants.

483

477

Id. Short sale restrictions at Interactive Brokers generally did not apply to execution only customers, who are

customers that only execute orders through Interactive Brokers but do not clear and settle their trades through the firm.

Interactive Brokers’ execution only customers are generally either buy-side institutions, such as mutual funds, hedge

funds and other investment vehicles that rely on a broker-dealers other than Interactive Brokers as their prime broker-

dealer or custodian or, alternatively, other broker-dealers (whether US or foreign) that submit orders for their own

account or for their customers (whether they are retail or non-retail).

478

Appendix A to Letter from Chief Counsel of Investigations and Enforcement at Interactive Brokers, to Chairwoman

Waters and Chairman Green (Feb. 19, 2021). The symbols subject to position closing only limitations were: Fossil

Group Inc. (FOSL), BlackBerry Ltd. (BB), Nokia Corp. (NOK), Nokia Oyj (NOKN), Nokia Oyj (NOAA), Nokia

(NOKIASEK), Nokia (NOKIA), Express, Inc. (EXPR), Express, Inc. (02Z), Koss Corp. (KOSS), AMC Entertainment

Holdings Inc. (AMC), Bed Bath & Beyond Inc. (BBBY), Bed Bath & Beyond Inc. (BBY), GameStop (GME),

GameStop Corp. (GS2C), AeroCentury Corp. (ACY), Janone Inc. (JAN), Janone Inc. (5AR1), Monopar Therapeutics

Inc. (MNPR), New Concept Energy, Inc. (GBR), Lianluo Smart Ltd. (LLIT), and Lianluo Smart Ltd. (J8D1).

479

Appendix A to Letter from Chief Counsel of Investigations and Enforcement at Interactive Brokers, to Chairwoman

Waters and Chairman Green (Feb. 19, 2021). The position closing only restrictions on certain symbols were introduced

and lifted at different times on January 28, 2021. Specifically, for Bed Bath & Beyond, Inc. (BBY) and 02Z, the

restriction was introduced at 1:51 p.m. EST and lifted at 8:23 p.m. EST; for GameStop (GME) and Koss Corp.

(KOSS), the restriction was introduced at 7:56 a.m. EST and lifted at 8:23 p.m. EST; for GS2C, the restriction was

introduced at 11:46 a.m. EST and lifted at 8:23 p.m. EST; for ACY, JAN and MNPR, the restriction was introduced

at 7:56 a.m. EST and lifted at 9:00 p.m. EST; for 5AR1, the restriction was introduced at 13:51 p.m. EST and lifted at

9:42 p.m. EST; for GBR, the restriction was introduced at 12:32 p.m. EST and lifted at 9:42 p.m. EST; for LLI, the

restriction was introduced at 11:41 a.m. EST and lifted at 9:42 p.m. EST; and for J8D1, the restriction was introduced

at 1:51 p.m. EST and lifted at 9:42 p.m. EST. In some instances, these restrictions took thirty minutes or more to be

applied across the Interactive Brokers platform from the time that risk personnel introduced them.

480

Interactive Brokers briefing with the Committee (Jun. 14, 2021).

481

Id. The approximately $4.4 billion excess net capital figure is based on data from the firm’s Financial and

Operational Combined Uniform Single Report (FINRA FOCUS Report) filed on January 27, 2021, and which would

have been referred to by the NSCC on January 28, 2021. Interactive Brokers’ FINRA FOCUS Report for the period

ending January 31, 2021 reflected excess net capital of approximately $3.8 billion.

482

Interactive Brokers, FAQs: Securities subject to Special Requirements, Interactive Brokers (last accessed Sept. 17,

2021).

483

Id.

E*TRADE Securities LLC (E*TRADE) also implemented risk management measures

during the Meme Stock Market Event. E*TRADE increased margin requirements for various

symbols, including GME and AMC, over the course of January 22, 2021, to January 29, 2021.

484

E*TRADE also prohibited customers from opening new short equity positions in AMC and GME

stock after the market closed on January 27, 2021.

485

As a result of this prohibition, E*TRADE

customers were unable to open new short equity positions, or increase existing short equity

positions, in GME and AMC stock for the duration of January 28, 2021.

486

While E*TRADE also

temporarily prohibited the purchase of GME and AMC stock during part of this period (other than

to close an open short position), such restrictions were caused by a technology outage rather than

concerns relating to the ability to fund the NSCC collateral deposit requirements or liquidity

concerns generally.

487

e. E*TRADE, Cash App Investing, TD Ameritrade, and other broker-dealers

experienced IT system outages and other difficulties due to the volume of

trading activity experienced during the Meme Stock Market Event.

E*TRADE experienced a significant increase in order volume during the Meme Stock

Market Event, driven by exceptionally high levels of retail customer interest in GME and AMC.

488

On January 27, 2021, E*TRADE customers made more than 2.6 million trades, representing a

77% increase from one week prior, when E*TRADE customers made 1.47 million trades on

January 20, 2021. For context, E*TRADE had approximately 652,000 Daily Average Revenue

Trades in the first quarter of 2020.

489

The unanticipated and rapid growth in order volume during

this period overwhelmed one of E*TRADE’s trading technology systems, limiting the overall

number of customer orders that E*TRADE was able to process for a period of time.

490

Specifically, after market close on January 27, 2021, E*TRADE discovered that their order

routing system, Routex, had exhausted the allotted unique order sequence identification (Order

ID) numbers that it assigns to orders Routex sends to market centers (for example, to stock

exchanges or market makers) for execution.

491

The exhaustion of Order IDs led to two specific

types of problems for affected customers: certain customer orders became suspended in Routex

and were unable to be transmitted to the market for execution, while some other orders were

assigned duplicate Order IDs before execution and were matched with the incorrect account,

484

Letter from counsel for E*TRADE to Chairwoman Waters and Chairman Green (Apr. 16, 2021).

485

Id.

486

E*TRADE briefing with the Committee (Mar. 24, 2021); Letter from counsel for E*TRADE to Chairwoman

Waters and Chairman Green (Apr. 16, 2021).

487

E*TRADE briefing with the Committee (Mar. 24, 2021); Letter from counsel for E*TRADE to Chairwoman

Waters and Chairman Green (Apr. 16, 2021).

488

E*TRADE briefing with the Committee (Feb. 10, 2021).

489

Letter from counsel for E*TRADE to Chairwoman Waters (Apr. 16, 2021); SEC, Form 10-Q for E*TRADE

Financial Corporation (May 06, 2020).

490

E*TRADE briefing with the Committee (Feb. 10, 2021); Letter from counsel for E*TRADE to Chairwoman Waters

(Apr. 16, 2021).

491

Letter from counsel for E*TRADE to Chairwoman Waters (Apr. 16, 2021).

symbol, or quantity of shares.

492

E*TRADE began taking remedial measures to address both the

suspended orders and the mismatched orders upon discovering these problems.

493

Despite these efforts, E*TRADE technology personnel did not have sufficient time before

market open on the following day, January 28, 2021, to implement a technology solution that

would avert the possibility of the Routex Order ID issue occurring again.

494

Instead, E*TRADE

personnel anticipated that order volumes might once again trigger an exhaustion of Order IDs and

therefore monitored order volume throughout that day.

495

E*TRADE personnel were concerned

that the issue could recur, and determined that the firm must reduce the volume of orders it received

in order to protect the integrity of its trading platform.

496

E*TRADE personnel determined that

this could be accomplished by restricting activity in GME and AMC, which were the two securities

generating the largest volume of activity at E*TRADE during this time (and which collectively

represented approximately 15% of E*TRADE’s order volume on January 28, 2021).

497

As a result, shortly before 3:00 p.m. EST on January 28, 2021, E*TRADE restricted

customers from making new purchases of GME and AMC stock or opening options positions in

them (the short sale of these stocks had already been restricted by this time).

498

These restrictions

did not prevent customers from closing positions in either GME or AMC. Customers could

continue to sell stock they owned or purchase stock to cover pre-existing short positions.

499

These

restrictions sufficiently reduced total order volume such that the Routex Order IDs were not again

exhausted on January 28, 2021.

500

E*TRADE technology personnel were able to implement a

technology solution after market close on January 28, 2021, and these restrictions were lifted

before the market opened on the morning of January 29, 2021. The technology outage did not

recur.

501

Other broker-dealers also experienced technology outages due to extreme market volatility

during this period. For instance, TDA experienced functionality issues due to unprecedented

trading volume on January 28, 2021.

502

Specifically, access to TDA’s mobile application was in

some cases unavailable for users.

503

TDA encouraged customers to use its website or other

platforms in lieu of using the mobile application during this time.

504

Customers continued to be

able to access their accounts and place trades on TDA’s website and its “thinkorswim” web,

mobile, and desktop platforms, which are other trading platforms available to TDA customers.

None of these alternative platforms experienced significant functionality issues that would inhibit

492

Id. E*TRADE notified FINRA and the SEC of these issues on January 27, 2021.

493

Id.

494

Id. E*TRADE notified FINRA and the SEC of these issues on January 27, 2021.

495

Id.

496

Id.

497

Id.

498

Id.

499

Id.

500

Id.

501

Id.

502

Letter from counsel for Schwab/TDA to the Committee (Sept. 03, 2021).

503

Id.

504

TD Ameritrade (@TDameritrade), Twitter post (Jan. 27, 2021 10:14AM) (accessed Feb. 03, 2021).

customer trading during the relevant period.

505

Similarly, with respect to Robinhood, some

customers were unable to access Robinhood’s web application on the morning of January 27,

2021.

506

However, at the same time Robinhood customers were generally able to trade securities

through Robinhood’s iOS and Android apps.

507

Cash App Investing LLC (Cash App Investing) is an indirect subsidiary of Block, Inc.

(formerly Square Inc.), which is a publicly listed global technology company with a focus on

financial services. Cash App Investing also experienced technical challenges relating to its stock

trading platform on January 28, 2021. Cash App Investing experienced a disruption to its

proprietary back-end system that facilitates trading activity for approximately one hour on the

morning of January 28, 2021.

508

As a result of this issue, customers were unable to place orders

for the duration of this disruption.

509

Separately, DriveWealth, which Cash App Investing

outsources certain functions to and is responsible for arranging the clearing and processing of

trades initiated through Cash App Investing, also experienced delays to its systems commencing

at around 9 a.m. EST on January 28, 2021.

510

These issues led to delays and, in certain cases,

cancellations of affected customer orders.

511

In addition, once the system delays at DriveWealth

were resolved, there was an influx of traffic to Cash App Investing to process incoming requests.

512

The increased traffic also led to delays in the processing of customer purchase orders between

approximately 10:17 a.m. EST and 12:49 p.m. EST.

513

Also, DriveWealth could not fulfill certain

orders that were placed aftermarket hours on January 27, 2021 for execution after market open on

January 28, 2021, and certain orders placed during market hours on January 28, 2021. Specifically,

DriveWealth only executed orders for whole shares, but cancelled, or busted, certain fractional

share orders due to being unable to process them.

514

In addition to the internal delays and failure to process transactions experienced by

DriveWealth, the company’s staff observed downstream latency throughout the market while

attempting to fulfill customer orders.

515

DriveWealth employees commented to the Committee that

they had never seen the amount of orders that were initiated during this period and that they

observed other firms suffering tech outages and having capacity issues.

516

In addition to broker-

dealers, market makers, and other market participants working through technological constraints,

505

Letter from counsel for Schwab/TDA to Chairwoman Waters and Chairman Green (Sept. 03, 2021). Schwab also

had functionality issues on January 25, 27 and 28, 2021 at market open due to the record volume that was traded by

its customers. Schwab’s information technology support teams introduced technical fixes that provided the processing

power necessary to allow trading systems to perform normally even with volumes that might have been more than

three or four multiples of previous peaks.

506

Email from counsel for Robinhood to Committee staff (Sept. 03, 2021).

507

Id.

508

Email from Head of Federal Policy at Square to Committee staff (Aug. 19, 2021).

509

Id.

510

Id.

511

Id.

512

Id.

513

Id.

514

Id. Email from Head of Federal Policy at Square to Committee staff (Aug. 19, 2021).

515

DriveWealth briefing with the Committee (Sept. 22, 2021).

516

Id.

other elements of stock market infrastructure also became strained.

517

According to Drivewealth

employees, the volatility had a waterfall effect whereby each company outside of their own firm

that suffered a tech outage or slow-down put more pressure on other market participants to handle

the volume of order flow.

518

To execute a trade, there must be a buyer and a seller. While DriveWealth submitted

customer orders for certain meme stocks, the firm struggled throughout the day to find customers

willing to sell the stock.

519

For example, DriveWealth speculated that with the steep price increase

of meme stocks, many customers were placing buy orders with the expectation of continued price

appreciation but few customers were willing or able to place sell orders.

520

Thus, while the firm

was able to submit buy orders, it experienced delays in receiving a confirmation back that a trade

had been executed.

521

Such a delay-approximately 700 milliseconds or more in this instance-led

DriveWealth to question whether it was achieving best execution on trades.

522

This in turn led

DriveWealth to bust a number of trades that were outside of its risk control benchmarks.

523

Key Finding #3: Most of the firms the Committee spoke to do not have explicit

plans to change their policies for how they will meet their collateral

requirements during extreme market volatility or adopt trading restrictions

when market volatility may warrant their introduction.

Several NSCC member firms

Committee staff interviewed either did

not model for, or otherwise explicitly

plan for, Excess Capital Premium

charges prior to the events of January

28, 2021. In the case of Robinhood,

this gap in its collateral planning and

liquidity management practices

contributed to an inability to fund

potential NSCC collateral deposit

requirements during the Meme Stock

Market Event, which froze retail

517

For instance, the New York Stock Exchange’s Trade Reporting Facility (TRF), a FINRA managed facility at the

exchange that reports off-exchange trades to DTCC, did not properly process trade reporting on the afternoon of

January 27, 2021. The TRF at the New York Stock Exchange was initially built to process 15 million trades but

received approximately 19 million trades on January 27, 2021. Staff at the NYSE worked through the weekend to

reprocess the trades and confirmed to Committee staff that all trades were properly reported to DTCC and the TRF

has since been expanded to have a capacity of 60 million trades per day. New York Stock Exchange briefing with the

Committee (Oct. 21, 2021).

518

DriveWealth briefing with the Committee (Sept. 22, 2021).

519

Id.

520

Id.

521

Id.

522

Id.

523

Id.

Most of the firms the Committee

spoke to do not have explicit plans

to change their policies for how

they will meet their collateral

requirements during extreme

market volatility or adopt trading

restrictions when market volatility

may warrant their introduction.

customers out of trading in certain securities. Committee staff has learned that there are significant

inconsistencies in how individual NSCC member firms approach their collateral planning

processes and there is an absence of precise regulatory requirements determining how individual

firms should conduct collateral planning and related risk management. In certain cases, NSCC

member firms appeared to be entirely unfamiliar with the particularities of the Excess Capital

Premium charge regime and did not specifically address it in their collateral planning and liquidity

management practices. The events of January and February 2021 demonstrate how concentrated

trading activity in a handful of securities can disrupt the stock market and produce spikes in

collateral requirements for individual firms.

In the case of Robinhood, the company confirmed to Committee staff that it relies on

internal statistical models to guide its collateral planning. Prior to January 28, 2021, the company

did not specifically model for, or otherwise calculate, Excess Capital Premium charges as part of

this collateral planning process and, in this regard, Robinhood’s Head of Data Science, who is not

directly responsible for clearing operations but supports multiple teams at Robinhood and its

affiliated companies, commented internally that Robinhood’s collateral charges were a “black

box” to him the day before Robinhood received its historical collateral charge.

524,525

On January 28, 2021 the firm first accessed and utilized the NSCC’s publicly available

Excess Capital Premium charge.

526

On May 27, 2021 Robinhood began modeling what the Excess

Capital Premium charge would be if Robinhood Securities exceeded 100% of its net capital.

527

Prior to January 28, 2021, firm officials viewed the likelihood of Excess Capital Premium charges

being imposed as remote and emphasized that they had incurred such a charge on only one other

occasion in the prior two years, which was during the March 2020 volatility that occurred during

the onset of the COVID-19 pandemic.

528

The DTCC also waived the Excess Capital Premium

charge Robinhood received in March 2020.

529

The perceived remoteness of being required to pay an Excess Capital Premium charge may

have contributed to Robinhood’s inattention to the Excess Capital Premium charge from a

collateral planning and liquidity management perspective. The potential application of the charge

was not at all remote but quite foreseeable—as of December 31, 2020, Robinhood Securities only

maintained excess net capital of approximately $486.8 million, which itself should have put the

firm on notice that it was thinly capitalized for a highly volatile environment.

530

Swartwout confirmed that after the events of January 28, 2021, when Robinhood was

assessed the unanticipated charge, the company took remedial measures and sought to learn about

524

Interview with J. Swartwout (Robinhood) (May 05, 2021).

525

RH_HFSC_00029119 (on file with the Committee).

526

Letter from counsel for Robinhood to Chairwoman Waters and Chairman Green (Dec. 15, 2021).

527

Id.

528

Interview with J. Swartwout (Robinhood) (May 05, 2021).

529

Id.

530

In contrast, after the occurrence of the meme stock market event and Robinhood’s subsequent capital raising,

Robinhood Securities maintained excess net capital of approximately $2.5 billion as of March 31, 2021. See SEC,

Amendment No. 2 to Form S-1 for Robinhood Markets, Inc.,

at 161 (Jul. 27, 2021).

the Excess Capital Premium charge and how it is calculated.

531

The NSCC directed Robinhood

officials to explanatory manuals that were already available to Robinhood on its member portal

and that provide details on how Excess Capital Premium charges are calculated.

532

Upon reviewing

these manuals, Robinhood built its own internal models to account for the level of Excess Capital

Premium charges that the company might be assessed.

533

Swartwout acknowledged to Committee staff that Robinhood Securities had not previously

reviewed these manuals.

534

Robinhood’s failure to incorporate the possibility of Excess Capital

Premium charges into its planning processes prior to January 28, 2021, despite the firm’s

vulnerability to the imposition of additional charges because of relatively limited excess net capital

at the time, led to its unpreparedness to meet its collateral deposit requirement on January 28, 2021.

Due to this lack of visibility, no efforts were made to arrange for adequate funding ahead of time

that would have enabled Robinhood to meet its initial approximately $3.7 billion collateral deposit

requirement on January 28, 2021.

Although Apex employs internal Value-at-Risk calculations, Apex confirmed to

Committee staff that the company does not employ its own statistical models to predict NSCC

collateral requirements.

535

Instead, the company employs tools that the NSCC makes available

through its web portal to each of its member firms.

536

The NSCC provides a Value-at-Risk

calculator tool as well as a what is referred to as an “Account Details” tool that member firms are

able to use to help determine the next day’s NSCC collateral deposit requirement as well as a

member firm’s exposure to intraday margin calls.

537

Using these NSCC-provided tools, Apex

reviewed historical NSCC collateral requirement data for up to the prior 12 months and applied a

2X multiple to predict and plan for its collateral requirements.

538

Therefore, it appears that Apex

did not expressly focus on the precise level of an Excess Capital Premium charge that could be

incurred prior to January 28, 2021, but was acting in accordance with general FINRA guidance on

the topic. In Apex’s case, while this gap in collateral planning was unrelated to the Excess Capital

Premium charge that was exhibited in its 10 AM Slice (which, as detailed in this report, was caused

by an operational requirement to manually verify a single trade), it is representative of an overall

lack of industry-wide preparedness for Excess Capital Premium charges as part of routine

collateral planning processes and also the insufficiency of the existing regulatory benchmarks for

collateral planning.

Larger or older broker-dealers, such as Interactive Brokers and Charles Schwab, have taken

a different approach to planning for the prospect of Excess Capital Premium charges. Interactive

Brokers, for instance, confirmed to Committee staff that to date it has not been necessary for it to

build a model or calculations specific to the formula for Excess Capital Premium charges as it is

531

Interview with J. Swartwout (Robinhood) (May 05, 2021).

532

Id.

533

Id.

534

Id.

535

Letter from counsel for Apex Clearing Corporation to the Committee (Jul. 9, 2021).

536

Id.

537

Id.

538

Id.

outlined in NSCC rules.

539

According to Interactive Brokers officials, this is because the firm

regularly maintains an amount of excess net capital that far exceeds an amount that would likely

trigger the imposition of an Excess Capital Premium charge.

540

Interactive Brokers believes that it

is appropriate instead for the firm to monitor its clearing fund requirements in the ordinary course

of business and update its models and collateral planning procedures to specifically account for

Excess Capital Premium charges only their clearing fund requirements approached the amount of

excess net capital maintained by the company.

541

Charles Schwab and TDA similarly do not model for Excess Capital Premium charges as

part of their own planning processes as they regularly carry excess capital that far exceeds expected

NSCC collateral deposit requirements and regulatory-required capital levels.

542

For example, on

January 28, 2021, Charles Schwab had a total NSCC deposit requirement of approximately $1.1

billion and maintained excess net capital of approximately $3.1 billion.

543

TDA’s NSCC deposit

requirements on January 28, 2021 were approximately $1.75 billion and the firm maintained

excess net capital of approximately $4.1 billion.

544

Thus, even on days that witnessed extreme

market volatility, both firms maintained excess net capital far in excess of levels that would

potentially trigger an Excess Capital Premium charge.

A risk management approach that does not require granular planning for Excess Capital

Premium charges may be suitable for larger, more robustly capitalized firms that have easy access

to public markets and other funding sources. However, it may be unsuitable for firms less able to

maintain large excess net capital buffers and whose business practices and client base make them

more likely to experience the kind of volatility that may lead to spikes in its NSCC collateral

requirements.

The Committee’s investigation has revealed little consistency across the industry in terms

of how member firms anticipate, predict, and plan for NSCC collateral deposit requirements and,

in particular, the prospect of Excess Capital Premium charges, even though existing FINRA

guidance calls attention to the importance of firms having robust funding and liquidity

management.

545

Generally speaking, firms across the industry have a limited understanding of how

to calculate the precise level of Excess Capital Premium charges applicable to their firm. This

likely has resulted in insufficient planning from a liquidity and funding perspective. Furthermore,

neither the SEC, NSCC, or FINRA provides rules or other focused oversight to guide individual

member firms’ internal collateral planning processes.

546

While these blind spots may prove benign for larger firms that are capitalized well enough

to fund unexpected Excess Capital Premium charges, they present far more significant risks when

539

Interactive Brokers call with Committee staff (Jul. 08, 2021).

540

Interactive Brokers briefing with Committee staff (Jun. 14, 2021).

541

Id.

542

Email from counsel for Schwab/TDA to Committee staff (Aug. 05, 2021).

543

Id.

544

Email from counsel for Schwab/TDA to Committee staff (Aug. 05, 2021).

545

FINRA, Regulatory Notice 10-57 (Nov. 2010); FINRA, Regulatory Notice 21-12 (Mar. 18, 2021).

546

The Committee understands that this was a stated priority for FINRA and SEC examinations for 2021 and continues

to be for 2022.

100

associated with firms that have more limited capital and liquidity buffers and whose business

models are built on attracting a large number of clients and transactions. Such firms are particularly

ill-prepared to fund the Excess Capital Premium charges that they are more likely to trigger due to

the higher volatility risk profile of their customer base, as was the case with Robinhood on January

28, 2021. As a general matter, firms did not appear to have explicit plans in place to address

collateral deposit requirements in volatile environments because they do not specifically plan for,

nor do many firms understand on a granular level, how significantly Excess Capital Premium

charges might impact such requirements.

Furthermore, Committee staff found no specific industry-wide practice regarding the

establishment of written contingency plans to guide how individual broker-dealers will adopt

trading restrictions when market volatility may warrant their introduction. Several clearing brokers

Committee staff interviewed confirmed that the specific actions they took to limit the impact of

volatility on their trading platforms during the height of the Meme Stock Market Event represented

the best judgment of their operations professionals under exigent market circumstances. No such

firm had in place a pre-established and written contingency plan or playbook to outline what

specific trade restrictions they would adopt to ameliorate the impact of extreme market volatility

and when specific measures might be triggered.

547

The lack of pre-established, written, and publicly disclosed contingency plans that address

the prospect of trading restrictions may exacerbate the risk of error by operations professionals

when attempting to address market volatility in challenging and fast-paced circumstances. Rather

than being forced to rely on their individual experience and discretion to make ad hoc decisions,

operations professionals may benefit from the ability to consult a written contingency plan. In

addition, the absence of such pre-established written contingency plans that can be publicly

disclosed to the market, by definition, means that the market may struggle to establish with

sufficient precision how trading restrictions may impact market activity during periods of

volatility.

547

Although several clearing brokers cited their customer agreements in support of their contractual right to actually

impose the relevant trading restrictions, typically neither these customer agreements nor written supervisory

procedures detail the range of measures that could be adopted to combat market volatility and what specifically might

trigger the imposition of such restrictions.

101

Key Finding #4: The Depository Trust & Clearing Corporation (DTCC) waived

$9.7 billion of collateral deposit requirements on January 28, 2021. The DTCC

lacks detailed, written policies and procedures for waiver or modification of a

"disincentive” charge it calculates for brokers that are deemed to be

undercapitalized and has regularly waived such charges during periods of

acute volatility in the two years before the Meme Stock Market Event.

On January 28, 2021, after consulting with several member-firms, senior risk professionals

at the DTCC determined, based

on their qualitative judgment of

market risk that it was

appropriate and prudent to

waive the application of Excess

Capital Premium charges

across the board for all member

firms. Such use of their

discretion is permissible under

NSCC rules.

548

In other words,

waivers from the Excess

Capital Premium charge were

not granted to a single firm, or

a handful of firms that had

specifically requested it and

warranted it due to their

individual responses and

countermeasures adopted, but

rather the Excess Capital Premium charge component was removed from the daily collateral

deposit requirement of any member firm that was assessed this charge on January 28, 2021.

549

Six member firms were assessed an Excess Capital Premium charge that morning,

aggregating approximately $9.7 billion. According to NSCC rules, each firm would have been

required to pay these Excess Capital Premium charges as part of its daily clearing fund

requirements by 10 a.m. EST.

550

Two of these six member firms, including Robinhood, had

specifically requested to receive a modification of, waiver of, or other relief from, their overall

margin charges from the NSCC on the morning of January 28, 2021.

551

Furthermore, of the six member firms that received an Excess Capital Premium charge on

the morning of January 28, 2021 the NSCC had previously subjected four of those member firms

548

DTCC briefing with the Committee on (Jun. 17, 2021); DTCC briefing with the Committee (Jul. 22, 2021).

549

DTCC briefing with the Committee on (Jun. 17, 2021); DTCC briefing with the Committee (Jul. 22, 2021).

550

Email from General Counsel for DTCC to Committee staff (Aug. 03, 2021). The six firms that received the Excess

Capital Premium charge on January 28, 2021, were Robinhood Securities, LLC, Axos Clearing LLC, Instinet, LLC,

Wedbush Securities Inc., LEK Securities Corporation and Vision Financial Markets LLC.

551

Email from General Counsel for DTCC to Committee staff (Aug. 03, 2021).

The Depository Trust & Clearing

Corporation (DTCC) waived $9.7 billion

of collateral deposit requirements on

January 28, 2021. The DTCC lacks

detailed, written policies and procedures

for waiver or modification of a

"disincentive” charge it calculates for

brokers that are deemed to be

undercapitalized and has regularly

waived such charges during periods of

acute volatility in the two years before

the Meme Stock Market Event.

102

to Enhanced Surveillance.

552

Enhanced Surveillance is an NSCC program that identifies member-

firms which the NSCC has specific concerns about regarding liquidity and capitalization,

operational concerns, or other matters.

553

Once placed on Enhanced Surveillance, member firms

are subject to heightened monitoring and surveillance. Robinhood Securities was first placed on

Enhanced Surveillance in March of 2020 and has continuously been subject to this status through

the date that this report was submitted for publication.

554

Unfortunately, the NSCC’s ongoing

surveillance proved insufficient to identify potential liquidity constraints at certain firms, including

Robinhood.

At the time of the events described in this report, becoming subject to Enhanced

Surveillance triggered heightened review of the relevant member-firm by NSCC staff, which when

prompted by concerns about financial health, are designed to ensure that such firms are adequately

capitalized, have adequate liquidity, and otherwise address the concerns of NSCC staff.

555

It should

also be noted that even when firms are placed on Enhanced Surveillance due to other factors, such

as operational concerns, such firms would also be subject to greater review from a liquidity and

capitalization perspective as part of carrying out Enhanced Surveillance.

556

In other words, greater

scrutiny of a member firm’s liquidity and capitalization is a routine element of Enhanced

Surveillance irrespective of what triggers it.

557

Thus, the NSCC had pre-existing concerns with

respect to four member firms that ultimately attracted Excess Capital Premium charges on January

28, 2021, which illustrates that those elements of Enhanced Surveillance review that focus on

liquidity and capitalization may not be sufficiently robust.

558

Furthermore, NSCC member firms

are not actually informed when they are placed on Enhanced Surveillance.

559

Not informing

member firms that they are under Enhanced Surveillance may impede effective oversight of these

members or at least misses an opportunity to convey the need to adopt remedial measures to such

firms.

Senior NSCC officials explained to Committee staff that they believed an across-the-board

waiver of Excess Capital Premium charges for January 28, 2021 was appropriate due to concerns

that applying the charge in this instance could have caused systemic risk and therefore proven to

be counterproductive.

560

NSCC officials confirmed that, had the Excess Capital Premium charges

not been waived, several NSCC member firms could have simultaneously been unable to meet

their collateral deposit requirements, which could have had knock on effects on the clearinghouse

552

Id.; DTCC briefing with the Committee (Jun. 17, 2021).

553

Email from General Counsel for DTCC to Committee staff (Aug. 03, 2021) DTCC briefing with the Committee

(Jun. 17, 2021).

554

DTCC briefing with the Committee (Jul. 22, 2021).

555

DTCC briefing with the Committee (Jul. 16, 2021), DTCC briefing with the Committee (Sept. 10, 2021).

556

DTCC briefing with the Committee (Sept. 10, 2021).

557

Id.

558

Id.

559

Id.

560

DTCC briefing with the Committee (Jul. 22, 2021).

103

if it was forced to cease clearing trades for such firms and liquidate their inventory.

561

NSCC risk

managers believed an across the board waiver was an appropriate step to take because they are

focused on the market as a whole and the ability of member firms to make margin calls over an

extended period of time, rather than on a particular day.

562

Nevertheless, this resulted in a situation

in which the NSCC was forced to waive the application of the Excess Capital Premium charge—

designed to deter risk—at precisely a time when the need to disincentivize individual member

firms from accumulating excessive risk in their trading books was most urgent.

After waiving the Excess Capital Premium charges for January 28, 2021, NSCC risk

managers engaged in further review and analysis.

563

NSCC risk managers held conversations with

specific member firms to determine what countermeasures the firms were adopting to address

volatility in their trading books as well as to raise capital or otherwise access liquidity.

564

NSCC

risk managers received additional information from member firms regarding the imposition of

trade restrictions, capital raising plans, and other steps individual member firms believed would

mitigate volatility in their trading books and drive down volatility-based collateral deposit

requirements.

565

The NSCC waived Excess Capital Premium charges for all member firms through close of

business on Monday, February 1, 2021.

566

According to the DTCC, because the NSCC operates

on a T+2 basis, the elevated, directional trading activity in meme stocks that occurred on January

27, 2021 and that NSCC expected to continue on January 28, 2021, which had generated the

unusually high Excess Capital Premium charges for certain firms with significant exposures to

meme stocks, would not settle until February 1, 2021.

567

For context, during the entire period

between January 25, 2021 and February 2, 2021, the height of the Meme Stock Market Event,

eight NSCC member firms in total were assessed Excess Capital Premium charges aggregating

approximately $21.9 billion, and five of these firms were subject to Enhanced Surveillance by the

NSCC.

568

On the morning of January 28, 2021, Timothy Cuddihy, Managing Director of Financial

Risk Management for the DTCC, determined that waiving the penalty charges would promote

market stability by mitigating the risk that impacted firms could default due to the application of

a non-core charge that was, in this case, caused by extraordinary market volatility. Cuddihy has

the ultimate authority to authorize waivers of the Excess Capital Premium charges, and in theory

he does not need to consult with anyone to authorize a waiver. On January 28, 2021, however, the

561

Id.; DTCC briefing with the Committee (Jul. 06, 2021). It should be noted that in the event that a liquidation

procedure of a member firm results in uncovered losses, the NSCC is able to mutualize losses amongst other member

firms by calling for them to make contributions to fund such losses. This, in turn, may introduce systemic risk by

straining the capital requirements of non-defaulting member firms.

562

DTCC briefing with the Committee (Jul. 06, 2021); DTCC briefing with the Committee (Jul. 22, 2021).

563

DTCC briefing with the Committee (Jul. 06, 2021).

564

Id.

565

Id.

566

DTCC briefing with the Committee (Jun. 17, 2021).

567

Email and attachment from General Counsel for DTCC to Committee staff (Jun. 20, 2022).

568

Email from General Counsel for DTCC to the Committee (Aug. 4, 2021); DTCC briefing with the Committee (Jul.

22, 2021).

104

recommendation to waive Excess Capital Premium charges originated with midlevel risk

management professionals. Moreover, according to the DTCC, given the magnitude of the charges,

the number of firms impacted, and the high level of market volatility, Cuddihy consulted with the

DTCC’s Group Chief Risk Officer, the Head of Clearing Agency Services, and the Management

Risk Committee before ultimately issuing the waiver

569

Though many brokers restricted trading

in meme stocks in an effort to reduce their collateral deposit requirements, Cuddihy informed the

Committee that he first learned of Robinhood’s trading restrictions in meme stocks by reading

about them on Bloomberg.

570

Robinhood executives told the Committee that while the NSCC

engaged them in conversation on January 28, 2021, the clearinghouse never explained the basis

for the waiver of the Excess Capital Premium charge to them in detail.

571

a. The NSCC regularly waives Excess Capital Premium charges on its member firms and,

in particular, for certain member firms that tend to be repeat offenders in attracting this

charge

As part of the Committee’s investigation, we reviewed historic trends associated with

DTCC’s waiver of Excess Capital Premium charges. From January 1, 2019 through February 12,

2021, 22 of the NSCC’s 147 member firms had incurred one or more Excess Capital Premium

charge.

572

In aggregate, Excess Capital Premium charges were incurred on 307 occasions in this

timespan.

573

Approximately ninety percent (90%) of these charges were incurred by eight member

firms (LEK Securities, Corporation, Instinet, LLC, Wedbush Securities, Inc., ITG, Inc., Vision

Financial Markets, LLC, Velox Clearing, LLC, Axos Clearing, LLC, and Virtu Americas, LLC

(277 of the 307 charges)) and approximately seventy-five percent (75%) were incurred by three

member firms (LEK Securities, Instinet, LLC, and Wedbush Securities, Inc. (229 of the 307

charges)).

574

Of these 307 occasions when an Excess Capital Premium charge was incurred, the

charge was ultimately applied without modification approximately seventy-eight percent (78%) of

the time, was applied in a reduced amount approximately ten-percent (10%) of the time, and was

not imposed at all in approximately twelve percent (12%) of the time.

575

The waiver or

modification of Excess Capital Premium charges comes into play more often during periods of

acute volatility; the higher the calculated Excess Capital Premium charges for a particular day, the

more likely the NSCC is to waive it, as illustrated in the chart below.

569

Email and attachment from General Counsel for DTCC to Committee staff (Jun. 20, 2022).

570

DTCC Briefing with the Committee (Jul. 22, 2021).

571

Interview with J. Swartwout (Robinhood) (May 05, 2021); Interview with J. Swartwout (Robinhood) (May 21,

2021); Interview with G. Howard (Robinhood) (Jun. 11, 2021).

572

DTCC, NSCC Equity Clearing & Settlement Overview: Presentation to House Staff, at slide 15 (Jun. 17, 2021);

Email and produced attachment from General Counsel for DTCC to Committee staff (Aug. 03, 2021) (on file with the

Committee).

573

Email and produced attachment from General Counsel for DTCC to Committee staff (Aug. 03, 2021) (on file with

the Committee).

574

DTCC, NSCC Equity Clearing & Settlement Overview: Presentation to House Staff, at slide 5 (Jul. 22, 2021);

Email and produced attachment from General Counsel for DTCC to Committee staff (Aug. 03, 2021) (on file with the

Committee).

575

DTCC, NSCC Equity Clearing & Settlement Overview: Presentation to House Staff, at slide 15 (Jun. 17, 2021).

105

Excess Capital Premium Charges Calculated vs. Applied

(January 01, 2019 – February 12, 2021)

576

Most of the occasions when the NSCC did not impose the Excess Capital Premium charge

at all took place either during the market volatility events of March 2020, which were associated

with the outbreak of the COVID-19 pandemic and the rollout of lockdowns and other social

distancing restrictions across the United States and the world, or during the period from January

25, 2021 through February 1, 2021, which was the height of the Meme Stock Market Event. The

NSCC’s regular waiver of Excess Capital Premium charges disproportionately benefits clearing

brokers that attract the largest aggregate Excess Capital Premium charges.

576

Email and produced attachment from General Counsel for DTCC to Committee staff (Aug. 4, 2021) (on file with

the Committee). This chart includes Excess Capital Premium charges calculated and / or assessed from January 8,

2019 through February 12, 2021 for all NSCC member firms. The considerable increase in Excess Capital Premium

charges in March of 2020 and then again in January and February of 2021 were caused by volatility induced by the

COVID-related lockdowns and meme stock volatility, respectively. Data excludes an Excess Capital Premium charge

calculated on March 19, 2019, due to an internal data reporting error within the NSCC.

Billions

Calculated Excess Capital Premium charges Applied Excess Capital Premium charges

106

Table 1: Excess Capital Premium charges calculated vs applied (in $ billions)

January 1, 2019 – February 12, 2021

577

Entity ECP Calculated ECP Applied % Applied

Instinet, LLC

578

$ 66.98 $ 17.05 25.46%

Robinhood Securities, LLC

$ 2.51 $ 0.02 0.92%

ITG, Inc.

$ 1.54 $ 0.28 18.30%

Axos Clearing, LLC

$ 1.08 $ 0.16 14.63%

Virtu Americas, LLC

$1.06 $0.21 19.44%

The eight member firms that incurred 90% of these Excess Capital Premium charges differ

in their capacity to fund potential Excess Capital Premium charges, for instance through support

from a parent company.

579

Regardless, given the profile of this subset of member firms, which

includes both clearing brokers specialized in servicing rapidly growing fintech startups as well as

those servicing larger institutional clients that can produce very large collateral deposit

requirements, the apparent repeated failure of the Excess Capital Premium charge to deter such

firms from accumulating excessive risk and its failure to encourage them to maintain adequate

excess capital buffers, is concerning.

Of the 277 times these firms received an Excess Capital Premium charge during the period

from January 1, 2019 to February 12, 2021, the Excess Capital Premium charge was either not

applied or reduced 63 times.

580

In interviews with Committee staff, NSCC officials stated that at

least one member firm made a business decision to engage in trading activities that will result in

the application of the charge because they are either comfortable that the amount of the charge

itself will be manageable or feel confident that it would likely be waived. For instance, consider

Robinhood Financial President and Chief Operating Officer, David Dusseault’s comment “we are

to(o) big for (the NSCC) to actually shut us down.”

581

The Excess Capital Premium charge is meant to be easy to understand and simple to

implement–—a one-size-fits-all for all of NSCC member firms and the diverse business models

577

This list represents the top five NSCC member firms with the highest aggregate calculated Excess Capital Premium

charges from January 8, 2019 through February 12, 2021. It is worth noting that 3 of the 4 times an Excess Capital

Premium charge was calculated for Robinhood was during the Meme Stock Market Event. Email and produced

attachment from General Counsel for DTCC to Committee staff (Aug. 4, 2021).

578

Instinet, LLC is a subsidiary of Nomura Holdings, one of the largest listed Japanese financial services

conglomerates. In addition to acting as the independent equity trading arm of its parent group, it executes trades for

asset management firms, hedge funds, insurance companies, mutual funds and pension funds.

579

DTCC briefing with the Committee (Jun. 17, 2021);

580

DTCC, NSCC Equity Clearing & Settlement Overview: Presentation to House Staff (Jun. 17, 2021).

581

DTCC briefing with the Committee (Jul. 06, 2021); RH_HFSC_00007111 (on file with the Committee).

107

among them.

582

Nevertheless, the Meme Stock Market Event exposed a lack of understanding of

the Excess Capital Premium charge regime and/or a failure to take it seriously by several NSCC

member firms which, in turn, led to a failure to adequately prepare to fund such charges and to

capitalize their businesses accordingly.

This represents a moral hazard that undermines the deterrent value of the Excess Capital

Premium charge. Specifically, these firms may not be deterred from riskier trading practices

because they are comfortable that the Excess Capital Premium charges that they incur may be

modified or waived, particularly when the risk of default is greatest. As NSCC officials explained

to Committee staff, part of the purpose of the Excess Capital Premium charge is to encourage

member firms to maintain reasonable excess capital buffers.

583

In other words, by maintaining an

excess capital buffer, individual firms will avoid the application of the Excess Capital Premium

charge as a penalty.

584

The effectiveness of this policy and the positive result that it is designed to

achieve could be undermined by what appears to be the regular, nearly predictable, waiver of

Excess Capital Premium charges during periods of acute volatility in the two years before the

Meme Stock Market Event. The existence of repeat offenders may act as a signal to other member

firms to not take the Excess Capital Premium charge as seriously as they should. It is worth noting

that the Committee reviewed Excess Capital Premium charges as calculated and assessed in a

period that includes both the heightened volatility brought about by the onset of the COVID-19

pandemic and the acute volatility of the Meme Stock Market Event. While these events may not

be representative of periods of lower market volatility prior to March 2020, many experts the

Committee spoke with over the course of its investigation expected to see periods of acute

volatility more regularly going forward.

582

DTCC briefing with the Committee (Jul. 22, 2021).

583

DTCC briefing with the Committee (Jul. 06, 2021).

584

Id.

108

IV. POLICY RECOMMENDATIONS

The extraordinary growth in ordinary retail investor participation in the stock market will

likely accelerate with the continued rise of mobile trading applications that gamify investing, offer

fractional share trading, and other products designed to encourage the frequency of trading.

Growth in ordinary retail investor participation in the market has the potential to increase

opportunities for wealth creation if coupled with a robust framework of investor protection and

high-quality information that prevents abuse and fraud. However, market institutions, regulations,

and policy considerations must be designed with attention to the interests of ordinary retail

investors at the forefront and must attempt to anticipate and plan for the potentially disruptive

impacts of new technologies.

Industry participants and experts that the Committee spoke to, including witnesses

appearing on behalf of the clearing brokers that are addressed in this report, expressed concerns

about a trading environment that simultaneously invites increased retail investor participation

coupled with the advent of social media driven trading activity. DTCC’s Managing Director for

Financial Risk Management, for instance, indicated that the Meme Stock Market Event

represented a new kind of risk that regulators must be prepared for in the future.

585

The DTCC and industry participants are making efforts to move to a T+1 settlement cycle

from the current two day settlement cycle, which the DTCC estimates could reduce the volatility

component of NSCC margin requirements by 41% and alleviate some of the issues described in

this report related to the magnitude of collateral deposit requirements.

586

The SEC has now also

endorsed this shift to T+1 settlement and has proposed a rule to shorten the settlement cycle.

587

Reducing the settlement time may help mitigate collateral requirements imposed by the

clearinghouses, but given that the Meme Stock Market Event occurred after the NSCC shortened

its settlement cycle from T+3 to T+2 in 2017,

588

merely shortening the settlement cycle without

making other changes is not a panacea and does not address all of the problematic issues

illuminated by the Meme Stock Market Event.

585

DTCC briefing with the Committee (Jul. 22, 2021).

586

Members of Congress, consumer advocates, and regulators discussed the pros and cons of shortening DTCC’s

settlement cycle in all three hearings the Committee held on the meme stock market event, with most witnesses

advocating a shorter settlement cycle. For additional detail, see Appendix II

: Hearings and Legislation in Response to

Meme Stock Market Event.

DTCC, DTCC PROPOSES APPROACH TO SHORTENING U.S. SETTLEMENT CYCLE TO T+1 WITHIN 2 YEARS

(Feb. 24, 2021); DTCC, Advancing Together: Leading the Industry to Accelerated Settlement (Feb. 2021).

587

SEC, SEC Issues Proposal to Reduce Risks in Clearance and Settlement, (Feb. 09, 2022). The SEC’s proposal also

includes rules that would require broker-dealers and registered investment advisors to shorten the process of

confirming and affirming the trade information used to prepare a transaction for settlement such that the process can

be completed by the end of the trade date. The proposed rule would also introduce new requirements related to

“straight-through processing”—applicable to certain clearing agencies that provide central matching services—which

assist the processing of institutional trades between broker-dealers and institutional customers.

588

DTCC, SIFMA, ICI AND DTCC LAY OUT PATH TO SHORTEN U.S. SECURITIES SETTLEMENT CYCLE TO

T+1 (Dec. 01, 2021).

109

In addition, the Committee’s investigation has revealed several potential areas for attention

and reform to help ensure that the retail trading infrastructure operates smoothly in the face of a

rapidly changing trading environment and that the supervision of retail oriented clearing brokers

is updated to meet contemporary challenges. This report’s policy recommendations are set forth

below. While several of these policy recommendations can be implemented by the NSCC, FINRA,

or the SEC directly under existing authority, Congress can also mandate many of these

recommendations through legislation.

1. Understanding the Influx of Retail Traders

a. Congress should adopt legislation mandating key regulators, including the SEC and

FINRA, to study how existing market rules and supervision will need to evolve to

address new technological developments, including the possibility of social media

driven market activity.

The Meme Stock Market Event highlights the need for current rules and market

frameworks to modernize to address novel issues presented by new technology platforms and the

emergence of coordinated market activity by investors using social media. The SEC will need to

consider how to best proceed from an enforcement perspective to protect the market from

potentially manipulative trading coordinated on social media platforms. In addition, the ability to

remain anonymous on platforms such as Reddit while advocating for certain trading strategies may

also provide an avenue to engage in manipulative conduct (for instance, sophisticated investors

could potentially anonymously pose as retail traders and use their outsize financial resources to

promote and advertise certain investments). Such anonymity may undermine the ability of market

regulators to police manipulative and distortionary practices.

Additionally, the new generation of “superbroker” trading platforms provide near

immediate access to customers to trade sophisticated and risky investment instruments like options

and margin,

589

and encourage active trading that may be financially beneficial to the broker and

economically damaging to the retail trader through various digital engagement “gamification”

techniques. This business model can exacerbate volatility and stress the capital base of such firms.

Finally, the rapid pace at which accounts can now be opened on various online trading platforms,

which may be only a matter of seconds, also presents issues relating to the nature and adequacy of

due diligence and know your client (KYC) procedures that such broker-dealers are conducting.

b. The SEC should consider ways to implement trading halts tailored to respond to

concentrated volatility in a limited number of stocks.

Because market wide trading halts are more equitable than restrictions applied ad hoc,

firm-by-firm, the SEC should consider ways to devise trading halts that specifically address

prolonged, concentrated volatility in select stocks. This may reduce the need for individual broker-

dealers to place restrictions on their customers. In instances when a particular stock has exhibited

589

FINRA, Letter of Acceptance, Waiver, and Consent (No. 202006971201) (Jun. 30, 2021).

110

repeated volatility in a single day (i.e., GameStop was halted 19 times on January 28, 2021) the

SEC should consider different ways to structure incremental trading halts.

590

Perhaps after a stock

has been halted several times, or several times within an hour, the stock can be halted for

progressively longer periods of time. If the stock continues to exhibit abnormal volatility, the stock

could potentially be halted for the duration of the trading day.

2. Enhancing Supervision of Retail Facing “Superbrokers”

c. Congress should adopt legislation requiring brokers that execute above a pre-

determined threshold of customer orders to establish and maintain a connection to a

public market.

The Meme Stock Market Event exposed certain fragilities in the stock market. On January

28, 2021, as Robinhood faced operational and liquidity concerns, the broker-dealer remained

wholly reliant on its market makers to execute trades for its customers as the firm was not a

member of or connected to a public market such as Nasdaq or the NYSE. Nearly all the market

makers Robinhood routinely routed orders to were unable to execute trades on certain meme

stocks. Had all these market makers been unable to execute trades, Robinhood would have been

unable to execute trades on behalf of its customers. While Robinhood was connected to only six

market makers for equities on January 28, 2021 (functionally providing only six sellers for

equities), a connection to a public stock exchange would have connected the company to thousands

of buyers and sellers from whom to source liquidity. Requiring broker-dealers above a certain size

to obtain and maintain a connection to a public market would promote market resilience and bolster

price discovery in the market.

d. Congress should adopt legislation subjecting broker-dealers that make markets and

provide above a pre-determined threshold of liquidity to other broker-dealers to

Regulation SCI.

Regulation SCI currently applies to self-regulatory organizations such as FINRA and the

MSRB, as well as stock and options exchanges, clearing agencies, and others. The regulation

requires institutions to maintain “written policies and procedures reasonably designed to ensure

that their systems have levels of capacity, integrity, resiliency, availability, and security adequate

to maintain their operational capability and promote the maintenance of fair and orderly

markets.”

591

During the acute volatility in late January 2021, certain market makers such as Virtu

and Wolverine experienced severe operational strain and were unable to execute trades for wide

swaths of securities. During this period, Wolverine had no written policies or procedures in place

590

SEC briefing with the Committee (Jul. 14, 2021); SEC, Staff Report on Equity and Options Market Structure

Conditions in Early 2021, Securities and Exchange Commission (Oct. 14, 2021); The New York Stock Exchange

briefing with the Committee (Aug. 19, 2021).

591

Commissioner Kara M. Stein, Statement on Adoption of Rules to Increase the Operational Transparency of

Alternative Trading Systems (ATS) (July 18, 2018).

111

for determining when to restrict trading for volatile stocks. On the other hand, Citadel Securities

became a vital location for broker-dealers to source liquidity in certain meme stocks as its

competitors faced system outages and other operational concerns. Had Citadel Securities also

faced a system outage during the height of the trading volatility, the impact on retail trading and

the stock market would have been severe. Such a vital role in the market demands greater

oversight, as would be provided by subjecting Citadel Securities and other market makers above a

certain size to Regulation SCI. Additionally, market makers should be required to maintain

thorough written policies and procedures to provide guidance on how to maneuver operational

strain whether they qualify to be subject to Regulation SCI or not.

e. The SEC and FINRA should enhance large, retail facing broker-dealer

examinations and mandate stress tests that focus on liquidity management, including

to account for the prospect of social media driven market volatility.

The SEC and FINRA should consider augmenting the routine examination programs of

broker-dealers to assess the adequacy of firm liquidity arrangements and liquidity management

practices more regularly. While it is reviewed regularly by risk monitoring staff, this focus on

liquidity management should be a more regular component of examinations, including in cases

where risk monitoring does not indicate an examination. The SEC and FINRA should also consider

rulemaking to mandate that broker-dealers conduct supplemental stress tests to test their

preparedness for extreme market volatility, including testing their ability to pay Excess Capital

Premium charges triggered by such volatility.

While it may not be possible to predict how precisely social media driven market volatility

may play out in the future, the events of January and February of 2021 show how concentrated

trading activity in a handful of securities can disrupt the stock market. Individual clearing brokers

should expect, and be prepared for, future instances of such concentrated market activity. This

prospect constituted another blind spot in the existing supervisory framework, largely because the

events of January and February of 2021 were, at the time, unprecedented.

f. The SEC and FINRA should introduce a requirement for clearing brokers to

establish written contingency plans to address extreme market volatility and fully

disclose both the contingency plans and any trading restrictions to the market in real

time. Such written contingency plans should be reviewed regularly by the SEC and

FINRA.

As detailed in this report, the response by relevant clearing brokers to the extreme market

volatility witnessed during the Meme Stock Market Event was often an ad hoc exercise in risk

mitigation by operations professionals exercising their best judgment during exigent

circumstances. Similarly, efforts by some firms to seek out additional capital and funding,

including Robinhood and Apex, were also ad hoc and had the quality of an unplanned fire drill.

Several relevant clearing brokers did not have written contingency plans in place

describing, or setting standards for, how risk managers should implement various risk mitigation

112

measures, such as trading restrictions. They also did not have in place specific continency funding

plans, other than the general availability of limited credit facilities, which in the case of the relevant

firms proved insufficient. Clearing brokers that Committee staff spoke to, for instance, did not

have in place detailed contingency equity fundraising plans which could have been activated in an

emergency scenario.

592

As a result, it appears that there was a great deal of market confusion and

uncertainty regarding both the nature of trading restrictions and the stability of certain broker-

dealers, including speculation as to whether Robinhood was on the verge of insolvency.

593

addition, retail investors exhibited a great deal of frustration with the lack of clarity around trading

restrictions imposed by broker-dealers, trading halts implemented by an exchange or a regulator,

and IT outages on January 28, 2021.

594

The SEC and FINRA should study the possibility of introducing requirements for clearing

brokers to adopt written contingency plans addressing how they will react to extreme market

volatility. Such contingency plans could establish standards and expectations for when various

trading restrictions, such as increased margin requirements, limitations on options trading or PCO

restrictions, might be triggered. Such plans also could minimize the prospect of mistakes and

facilitate speedy action. Such contingency plans could also require the establishment of emergency

fundraising plans and protocols that could facilitate a more rapid capital raising process should

that become necessary. Furthermore, prior public disclosure of such contingency plans to the

market may help prevent speculation as to how relevant actors will react to extreme market

volatility and may have a stabilizing and calming influence on market activity. Such written

contingency plans should be reviewed regularly by the SEC and FINRA once introduced. The SEC

and FINRA should study the viability of mandating the adoption of such written contingency plans

by clearing brokers and the benefits of their public disclosure. In addition to prior public disclosure

of such contingency plans, the SEC should also consider mandating real time information, perhaps

through in-app notifications, regarding the cause of a trading restriction when implemented as this

could provide valuable information to investors and support price discovery in the market.

595

g. Congress should adopt legislation that directs FINRA to conduct more thorough

supervision of the broker-dealer industry and the SEC should conduct more

thorough oversight of FINRA’s activities and any corrective actions FINRA may

propose.

According to GAO’s periodic reviews of the SEC’s oversight of FINRA, the SEC does not

have documented policies and procedures for tracking FINRA deficiencies or any corrective

actions FINRA takes in response to the SEC’s recommendations for improvements. FINRA is not

under a requirement to implement corrective actions if no rule violation was identified by the SEC,

592

Interview with J. Warnick (Robinhood) (Jun. 10, 2021); Interactive Brokers briefing with the Committee (May 25,

2021); Interview with Chief Compliance Officer (Apex Clearing Corporation) and Chief Corporate Development and

Legal Officer (Peak 6 Investments), at 23-24 (Jun. 16, 2021).

593

Andrew Ross Sorkin et al., Why Robinhood Had to Risk Infuriating Its Customers (Jan. 30, 2021); Robert Duff,

Odds Favor Robinhood Will Not Declare Bankruptcy in 2021 (Feb. 01, 2021); Mohit Oberoi, Will Robinhood Survive,

Go Bankrupt, or Eventually Be Acquired? (Jan. 28, 2022).

594

Andrew Ross Sorkin et al., Why Robinhood Had to Risk Infuriating Its Customers (Jan. 30, 2021).

595

The New York Stock Exchange briefing with the Committee (Aug. 19, 2021).

113

and there is little federal law controlling how FINRA must carry out its obligations. Therefore,

Congress should act and provide the statutory mandate that is currently lacking to specify how

FINRA should carry out its obligations and authorize the SEC to direct corrective actions when it

identifies problems with FINRA’s examinations and other mandated activities. Until the enactment

of such legislation, the SEC should follow GAO’s recommendations to develop performance

measures for its FINRA oversight, develop policies and procedures for tracking deficiencies and

corrective actions, and develop procedures for identifying and communicating the significance of

oversight findings.

FINRA has taken several actions to respond to both the volatility from the onset of COVID-

19 and the Meme Stock Market event, which includes new and revised protocols and procedures

including the adoption of a Supplemental Liquidity Schedule. However, the Committee’s

investigation also identified multiple areas in which FINRA could have additional rules to guide

its oversight of broker-dealers. For instance, during the course of the investigation, Committee

staff learned that the SEC and FINRA do not require firms to notify them of trading restrictions,

to maintain written plans for emergency capital raisings or liquidity arrangements, or to conduct

stress tests to specifically determine broker-dealers’ ability to offer market access to customers

during periods of peak volatility.

596

FINRA reviews capital and liquidity information from broker-

dealers, but does not currently collect it on a contemporaneous basis unless a broker-dealer is

experiencing significant financial or operational difficulty. The SEC recently approved

enhancements to FINRA’s liquidity reporting framework, and FINRA has discussed with the SEC

additional improvements to Federal and SRO oversight of liquidity.

597

h. When individual firms introduce trading restrictions, they should be required to

notify the SEC and FINRA. Once introduced, FINRA should engage in enhanced

monitoring to ensure that such trading restrictions are appropriate, tailored, and in

place no longer than necessary.

The Committee’s investigation reveals how individual broker-dealers impose trading

restrictions according to their own risk management calculus with limited oversight and review of

those decisions by applicable regulators. Upon inquiry, Committee staff were told that trading

restrictions likely only would be policed in the context of a possible nexus to market manipulation

and that individual broker-dealers have business incentives to be cautious about the introduction

of trading restrictions, specifically because the introduction of trading restrictions tends to alienate

customers.

598

Firms should be required to notify the SEC and FINRA prior to the adoption of

trading restrictions. In addition, FINRA should engage in enhanced monitoring and review of

trading restrictions, when they are adopted by individual broker-dealers, to ensure that they are as

narrowly tailored as possible. Such oversight is important to ensure that broker-dealers do not

abuse their discretionary authority to impose trading restrictions, whether intentionally to protect

596

FINRA briefing with the Committee (Jul. 09, 2021); FINRA briefing with the Committee (Aug. 05, 2021).

597

FINRA briefing with the Committee (Aug. 05, 2021).

598

FINRA briefing with the Committee (Jul. 09, 2021).

114

their own interests over those of their customers, or even unintentionally, for instance due to

insufficient attention or poor decision-making.

FINRA and the SEC should consider the adoption of rules and supervisory practices

accordingly. In addition, such a notification requirement would provide relevant regulators at the

SEC and FINRA with important information that would support a more holistic view of how the

market is responding to acute volatility in real time.

Perhaps at some point in the future, trading restrictions at broker-dealers could generate an

automated notice to FINRA and the SEC as restrictions are being implemented. Such real-time,

market wide information could provide regulators greater visibility and transparency into the

market during periods of acute volatility.

3. Strengthening Capital and Liquidity Requirements and Oversight

i. The SEC should introduce enhanced capitalization requirements for clearing

brokers.

The SEC and FINRA should consult with each other to develop enhanced capitalization

requirements (in addition to Rule 15c3-1 under the Securities Exchange Act (the “Uniform Net

Capital Rule”) to provide clearing brokers that support retail trading activity with an additional

monetary buffer to navigate market volatility without the need to resort to remedial measures such

as the adoption of trading restrictions, which could negatively impact ordinary retail investors.

Because FINRA more frequently interacts with broker-dealers, enforcing both SEC and FINRA

regulations, by expanding upon the SEC’s existing capital and liquidity requirements, the SEC

could further empower FINRA to oversee the securities industry more comprehensively by

expanding FINRA’s authority to issue binding guidance.

j. The SEC should introduce a liquidity rule for clearing brokers and FINRA should

establish a rules-based framework governing liquidity planning for clearing brokers.

The SEC should devise a liquidity rule that either updates or complements its net capital

rule and capitalization requirements. FINRA, working with the SEC, should introduce a

complementary rules-based framework establishing liquidity management requirements. In

combination, a liquidity rule and the creation of specific rules governing how firms should manage

their liquidity planning to satisfy the liquidity rule, could better stabilize and strengthen clearing

brokers, and better equip them to handle market volatility in a manner that does not unfairly

prejudice ordinary retail investors.

At present, collateral planning and liquidity management practices vary widely from firm

to firm and are significantly self-regulated. While FINRA periodically issues non-binding

guidance on adequate liquidity planning and may choose to inspect elements of a firm’s collateral

planning process in its examinations, there is an absence of specific rules focused on collateral

115

planning and liquidity management practices by clearing brokers.

599

FINRA cannot establish a

liquidity deficiency in an examination outside of mandating compliance with the SEC’s Net

Capital Rule. Therefore, abiding by FINRA’s liquidity guidance is effectively voluntary. The

introduction of detailed and prescriptive rules around collateral planning and liquidity management

practices by the SEC or FINRA would provide FINRA with a more detailed framework that could

be policed and enforced as part of FINRA’s supervision of clearing brokers to ensure that they are

adequately prepared to fund collateral deposit requirements on an ongoing basis.

FINRA, the NSCC, and the SEC should jointly study the prospect of establishing more

detailed rules specifically focused on the collateral planning and liquidity management practices

of clearing brokers. Such rules should involve the conduct of regular reviews to ensure that

individual clearing brokers understand the components of their potential collateral requirements,

are tracking their likely magnitude through the use of appropriate analytical tools tailored to

capture the risks inherent in their respective business models, have a sufficient number of specialist

personnel managing liquidity planning, and have in place adequate contingency sources of funding

to meet prospective funding requirements.

k. The DTCC and its subsidiary, the NSCC, should revisit how it conducts surveillance

of member firms that may pose greater risk, and FINRA should focus more

systematically on assessing the sufficiency of liquidity planning by clearing brokers.

The NSCC has proposed various changes to its Watch List and Enhanced Surveillance List,

such as combining the two into a single list.

600

In addition to simplifying such categorizations, the

NSCC should substantively modify its member surveillance practices to further emphasize

liquidity and capitalization related reviews. Liquidity and capitalization requirements could also

be made part of NSCC’s membership requirements.

A more robust process for evaluating the liquidity and capital position of firms that

continually present heightened risk may help preempt future market events like the Meme Stock

Market Event from occurring. The NSCC should also inform member firms when it is on the

Watch List and provide them with concrete recommendations and timelines to implement them.

In addition, FINRA should also focus more systematically on liquidity planning in its various

examinations of clearing brokers. When certain liquidity related issues or observations are raised

in a FINRA examination, they should be followed up on consistently in subsequent examinations

to ensure that any such issues have been adequately addressed.

l. The DTCC, its subsidiary the NSCC, the SEC, and Congress should introduce an

emergency backstop funding facility for NSCC member firms that provide emergency

liquidity to the NSCC.

599

FINRA briefing with the Committee (Aug. 05, 2021).

600

DTCC briefing with the Committee (Jan. 21, 2020).

116

The NSCC, alongside the SEC, should study the prospect of establishing an emergency

backstop funding facility that can be drawn upon by member firms who are unable to meet

collateral deposit requirements by the relevant deadline. Such a facility can be structured to be

expensive and punitive to use with financing costs serving as a form of fine or penalty for member

firms. This lender of last resort solution would avoid the risk of trading restrictions or the cessation

of trading operations by member firms that struggle with the deadline and would therefore avoid

the need to rely on the loss absorption waterfall embedded in the NSCC rules as it would avoid

losses being triggered.

601

Penalties could also be imposed on firms that draw on such a facility

after the fact. A variety of options can also be considered to fund such a backstop facility, including

periodic contributions from NSCC member firms and third-party credit providers.

m. The DTCC and its subsidiary, the NSCC, should introduce clear written policies and

procedures and establish transparency around the circumstances under which an

Excess Capital Premium charge may be waived; such decisions should be subject to

review by the SEC.

DTCC officials conveyed to Committee staff that they use a balancing test when

determining whether to waive Excess Capital Premium charges

.602

Specifically, they weigh

whether the charge will serve its intended purposes to disincentivize risk taking in the market

against the possibility that applying the charge may be counterproductive and introduce risk if a

member firm is unable to fund the Excess Capital Premium charge.

603

At present, however, there appears to be a limited concrete framework prescribing when a

waiver from an Excess Capital Premium charge is appropriate.

604

It may be necessary to

occasionally Excess Capital Premium charges, but discretion unfettered by precise standards,

policies, and procedures creates opacity with respect to the charge and may contribute to

undermining it by enhancing the likelihood of speculation or miscalculation by clearing brokers

as to its application. Creating more clarity on when the charge may be waived will help clearing

brokers plan accordingly and may limit overreliance on the broad discretionary waiver authority

of the DTCC Risk Committee. This could promote better capital and liquidity planning by member

601

Because the NSCC is designated as a Systemically Important Financial Market Utility (SIFMU) under Dodd-Frank,

the Financial Stability Oversight Council (FSOC) should study the potential systemic risk of the NSCC’s regular

waiver of collateral charges during periods of acute volatility.

602

DTCC briefing with the Committee (Jul. 22, 2021).

603

DTCC briefing with the Committee (Jul. 22, 2021).

604

NSCC, NSCC Rules and Procedures - Procedure XV I(B)(2) (Jan. 01, 2021). Footnote 7 to Section I.(B)(2) of

Procedure XV (Clearing Fund Formula and Other Matters) of NSCC Rules specifies the circumstances in which NSCC

may exercise discretion to waive an ECP charge. The text of the footnote is reproduced in its entirety as follows:

“The Corporation [i.e., the National Securities Clearing Corporation] has identified the following guidelines or

circumstances, which are intended to be illustrative, but not limited, where the premium will not be imposed: (a) where

the premium results from charges applied with respect to municipal securities trades settling in CNS, where the

member has offsetting compared trades settling on a trade-for-trade basis through DTC; and (b) management will look

to see whether the premium results from an unusual or non-recurring circumstance where management believes it

would not be appropriate to assess the premium. Examples of such circumstances are a member’s late submission of

trade data for comparison or trade recording that would otherwise reduce the margined position if timely submitted,

or an unexpected haircut or capital charge that does not fundamentally change its risk profile.”

117

firms of the clearinghouse who may view the prospect of having to fund an Excess Capital

Premium charge more seriously. In addition, for prudential reasons, it may be appropriate to

require that waivers be subject to review by select senior DTCC officials prior to being granted.

The DTCC, in conjunction with its regulator, the SEC, should consider the adoption of a more

detailed framework establishing specific criteria for when a waiver from an Excess Capital

Premium charge will be entertained, such that this can be communicated to member firms, and

they can be educated accordingly.

Another possibility is for the DTCC to consider introducing a system in which firms that

incur an Excess Capital Premium charge are required to always maintain an additional capital

reserve. This would serve the dual purpose of penalizing the offending member firm and

disincentivizing it from accumulating excessive risk in its trading book in the first place. This

system also would bolster the stability of such firms to help them withstand market volatility.

118

APPENDIX I: GLOSSARY

Broker-dealers: Broker-dealers are firms that engage in trading securities on behalf of clients and

may also trade for themselves. Some broker-dealers act only as an introducing broker and contract

with a third-party clearing broker to provide clearing services. (See “Introducing Broker” and

“Clearing Broker” below).

Clearing Brokers: Clearing brokers are entities that are responsible for executing and processing

trades, which includes handling buy and sell orders and maintaining custody of investor securities

and assets. They are also member firms of clearinghouses.

Clearing fund requirements (also known as “margin requirements” and “collateral deposit

requirements”): Clearing fund requirements are the daily amount of funds, also known as margin,

that are required to be maintained by member firms with the DTCC as collateral to limit the

clearinghouse’s exposure to a potential default of that member. Clearing fund requirements consist

of various components, which include the calculated Value-at-Risk (See “Value-at-Risk charge”),

mark-to-market charges, certain charges designed to capture risks of variations in a member firm’s

unsettled portfolio which rely on historical information, and Excess Capital Premium charges, if

applicable.

Clearinghouse: A clearinghouse acts as a central counterparty in the execution of trades and

protects buyers and sellers from risk in the case that one entity does not successfully deliver cash

or securities in connection with such trade. The DTCC and its subsidiaries are clearinghouses. (See

“DTCC” below).

Depository Trust and Clearing Corporation (DTCC): The DTCC is a financial services

company that processes, clears, and settles securities transactions. It exchanges securities on behalf

of buyers and sellers and acts as securities depository by holding custody of the relevant securities.

Its subsidiary, the National Securities Clearing Corporation (NSCC), provides clearing,

settlement, risk management, and information services for equity securities.

Excess Capital Premium charge (ECP): The Excess Capital Premium charge is imposed on an

NSCC member firm when the member firm’s “core” margin requirement exceeds its excess net

capital as specified in SEC Rules. If imposed, it is a component of member firms’ overall collateral

deposit requirement, and the charge is calculated based on DTCC and NSCC rules.

Excess Capital Ratio: The ratio of a broker-dealer firm’s “core” margin requirement to its excess

net capital.

Excess Net Capital: The amount by which a firm’s available capital exceeds its regulatory net

capital as specified in SEC rules.

Introducing Brokers: Brokers that interface with individual clients and assist them in opening

accounts but do not maintain custody of funds and securities belonging to customers. Introducing

brokers instead rely on third parties for back-end operations and the execution of trades (i.e.,

119

Webull is an example of a broker that acts as only an introducing broker and, in its case, relies on

a contractual arrangement with Apex to clear and process trades initiated by Webull’s customers

on its platform).

Lit Exchange: A “lit” exchange or a lit pool is a public stock exchange where the amount of

liquidity posted for bids and offers for securities are openly displayed to all traders. Examples of

lit exchanges include the New York Stock Exchange and Nasdaq. Lit exchanges are the opposite

of “dark” pools in which prices are not displayed to all market participants.

Market Makers: Market makers are brokers that quote buy and sell prices of securities for itself

and other market participants. They ‘make the market’ by infusing liquidity into the market by

ensuring trades can be bought and sold. Market makers also provide investors with the ability to

trade securities with immediacy and transparency.

Meme stocks: Meme stocks are stocks that experience increased trading volume activity by retail

investors because of heightened social media discourse (i.e., on Reddit, Twitter, and TikTok)

surrounding the stock. Examples of meme stocks from the Meme Stock Market Event include

GameStop (GME), AMC Entertainment Holdings Inc. (AMC), and Naked Brand Group Ltd.

(NAKD).

Meme Stock Market Event: The volatility experienced in the pricing and trading of meme stocks

during January and February of 2021 and the related actions taken by various broker-dealers.

Payment for Order Flow (PFOF): Payment for Order Flow is the payment a broker-dealer

receives for directing orders to a market maker for trade execution. The broker-dealer receives

payment in the form of a PFOF rebate, usually fractions of a penny per share, as compensation for

routing orders to market makers.

Uniform Net Capital Rule or Net Capital Rule: SEC Rule 15c3-1; This rule allows the SEC to

directly regulate the ability of broker-dealers to meet their financial obligations to customers and

other creditors by requiring them to maintain a minimum net capital based on the requirements set

out in the rule.

Short selling: To “short” a stock, an investor borrows shares of a stock or asset that they believe

will decrease in value. The investor then sells these borrowed shares to buyers willing to pay the

market price. Before the investor returns the borrowed shares to the lender, the trader is betting

that the price will drop and so they can purchase the shares at a lower cost.

Short squeeze: A short squeeze occurs when the market price of shorted stock rises above the

price at which the stock was borrowed, forcing short sellers to purchase the stock at a higher price.

This creates a self-reinforcing upward pressure on the price of the stock, which then causes

increasingly higher losses for the entity that had shorted the stock initially.

Slices: Regular, periodic information the NSCC communicates to each of its member firms

throughout the day outlining the total potential deposit requirement applicable to that member firm,

broken down by each of its components. Slices are sent to the firms intraday.

120

Superbroker: As used in this report, the term “superbroker” refers to a new generation of retail-

facing self-directed broker-dealers that are incentivized to push their customers to make as many

trades as possible through digital engagement features that include “game-like features and

celebratory animations,” lenient extension of margin trading to their customers, increased access

to fractional shares, and related practices.

Value-at-Risk (Value-at-Risk or VaR) Charge: The Value-at-Risk charge is an NSCC

requirement that is based on a complex formula which measures the volatility and risk within each

clearing broker’s daily book of business and on the broker-dealers previous day’s activity. It is

used to mitigate the NSCC’s risk of exposure to a member firm’s portfolio. These risks are laid

out in Procedure XV of the NSCC’s Rules and Procedures.

121

APPENDIX II: HEARINGS AND LEGISLATION IN RESPONSE

TO MEME STOCK MARKET EVENT

1. Introduction

In early 2021, the Financial Services Committee convened a series of three hearings to

explore the increased trading activity in “meme stocks” that generated significant market volatility

in January 2021, which ultimately led several introducing brokers to restrict trading for customers

(Meme Stock Market Event). Meme stocks are stocks that generate immense investor interest due

to activity on social media and online forums, and not necessarily on analysis of a company’s

fundamentals.

605

The U.S. House Committee on Financial Services (Committee) convened the

hearings to establish the facts about the events that occurred and to evaluate whether existing

regulatory measures are sufficient to promote integrity and uphold fairness, transparency, and

accountability within our capital markets. These hearings are part of the Committee’s efforts to

ensure that the regulatory architecture of U.S. capital markets is designed to provide a level playing

field for ordinary retail customers and does not provide undue advantages to sophisticated market

participants, including hedge funds, and financial intermediaries.

2. Hearing Series Overview

a. Game Stopped? Who Wins and Loses When Short Sellers, Social Media, and

Retail Investors Collide, Part I

On February 18, 2021, the Committee received testimony from representatives of

institutions involved in the Meme Stock Market Event.

606

The witnesses were:

• Mr. Vlad Tenev, CEO and Co-Founder; Robinhood Markets, Inc.;

• Mr. Kenneth Griffin, CEO, Citadel;

• Mr. Gabriel Plotkin, CEO, Melvin Capital;

• Mr. Steve Huffman, CEO and Co-Founder, Reddit;

• Mr. Keith Gill, retail investor a.k.a. “roaringkitty”; and

• Ms. Jennifer Schulp, Director of Financial Regulation Studies, Cato Institute.

In her opening statement, Chairwoman Waters stated that the market frenzy leading up to

the Meme Stock Market Event “illuminated potential conflicts of interest and the predatory ways

that certain funds operate” while also demonstrating “the enormous potential power of social

media.”

607

During the hearing, lawmakers focused on the trading restrictions Robinhood placed

605

Nasdaq, Ride the Renewed Meme Stock Wave With This New ETF (Jun. 2, 2021).

606

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide (Feb. 18, 2021).

607

Id.

122

on certain meme stocks, including placing several equities in “position closing only” (PCO) in

which investors could liquidate their stock but not open new positions.

608

Mr. Tenev explained

that Robinhood Securities established restrictions so that the company could meet increased

collateral deposit requirements issued by the National Security Clearing Corporation (NSCC) in

response to increased risk in Robinhood’s cleared portfolio as a result of concentrated activity in

meme stocks.

609

Melvin Capital CEO Gabriel Plotkin testified that because of the “unprecedented”

events, the company closed its positions on GameStop and other meme stocks and that the

company and its investors “suffered significant losses.”

610

Chairwoman Waters confirmed with

Citadel Securities CEO Kenneth Griffin that the market maker executed above 40% of the

country’s retail trade, and expressed concerns about Citadel Securities’ business model.

611

Citadel

Securities makes use of dark pools and other off-exchange trading and has access to key non-

public information such as the direction of trade volume at counterparty broker-dealers.

612

b. Game Stopped? Who Wins and Loses When Short Sellers, Social Media, and

Retail Investors Collide, Part II

On March 17, 2021, the Committee convened a second hearing focused on market structure

issues that may have contributed to the volatile trading environment leading up to the Meme Stock

Market Event such as payment for order flow (PFOF, the practice by which a broker-dealer routes

a customer order to a market maker and in return the market maker pays the broker-dealer a fee or

offers a rebate for that order and as such the broker-dealer profits from selling its users’ order), the

systemic risks posed by market makers, and the duration of the trade settlement cycle.

613

Chairwoman Waters called for capital market experts to provide their perspectives. The witnesses

were:

• Mr. Sal Arnuk, Partner, Themis Trading LLC;

• Mr. Michael Blaugrund, COO, New York Stock Exchange;

• Dr. Vicki Bogan, Professor, Cornell University;

• Ms. Alexis Goldstein, Senior Policy Analyst, Americans for Financial Reform;

• Mr. Dennis Kelleher, President and CEO, Better Markets;

• Mr. Alan Grujic, CEO, All of Us Financial; and

• Mr. Michael Piwowar, Executive Director, Milken Institute.

608

Id.

609

Id.

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Id.

611

Id.

612

Id.

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House Committee on Financial Services, Virtual Hearing – Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part II (Mar. 17, 2021).

123

In her opening statement, Chairwoman Maxine Waters stated she had convened the hearing

to hear perspectives from capital markets experts and investor advocates.

614

The Meme Stock

Market Event had “cast a spotlight on gaps in regulation of our capital markets,” and Part II of the

hearing series would provide an opportunity to “assess what legislative steps may be necessary.”

615

Ms. Alexis Goldstein, Mr. Sal Arnuk, and Mr. Dennis Kelleher argued that PFOF should be

prohibited or changed.

616

Witnesses also expressed concerns regarding the systemic risk posed by

Citadel Securities’ market maker subsidiary, which executes over 40% of retail trading for U.S.

listed equities.

617

Mr. Kelleher testified that Citadel Securities and other major market makers do

not have sufficient transparency, regulation, oversight, and accountability.

618

Ms. Goldstein

testified that Robinhood’s decision to halt trading was arbitrary and harmed investor confidence.

619

Mr. Arnuk highlighted the advantages that institutional investors and accredited investors enjoy at

the expense of retail investors and those who save for retirement.

620

c. Game Stopped? Who Wins and Loses When Short Sellers, Social Media, and

Retail Investors Collide, Part III

On May 06, 2021, the Committee held a third hearing analyzing the regulatory response to

the Meme Stock Market Event.

621

The witnesses were:

• The Honorable Gary Gensler, Chairman, U.S. Securities and Exchange

Commission (SEC);

• Mr. Michael Bodson, President and Chief Executive Officer, the Depository Trust

& Clearing Corporation (DTCC); and

• Mr. Robert Cook, President and Chief Executive Officer, Financial Industry

Regulatory Authority, Inc. (FINRA)

In her opening statement, Chairwoman Maxine Waters emphasized that, “it is critical for

our cops on the block at the SEC to protect investors and ensure that our markets are transparent

and fair.”

622

Regulatory leaders shared their evaluations of how existing standards protect

consumers in a market undergoing rapid change in the face of new technologies such as stock

trading platforms that feature gamification, the application of typical elements of game playing

such as animations, point scoring, leaderboards, and a free random stock upon signup.

623

SEC

Chairman Gary Gensler argued that while new user technology has “expanded access to capital”

and made it “easier for [an] investor to sign up, start trading, and learn about investing,” the SEC

614

Id.

615

Id.

616

Id.

617

Id.

618

Id.

619

Id.

620

Id.

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House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part III (May 06, 2021).

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Id.

623

Sarah E. Aberg and Shane J. Killeen, Game On: FINRA Hints at Upcoming Gamification Sweep, The National

Law Review (Jun. 1, 2021).

124

would continue to consider aspects of new technology applied to retail trading like “[gamification],

behavioral prompts, and predictive data analytics.”

624

FINRA CEO Robert Cook testified that after

the Meme Stock Market Event, FINRA established an internal working group that would devote

“significant resources to investigating whether it’s broker-dealers members comply with SEC and

FINRA Rules.”

625

DTCC CEO Mr. Michael Bodson also provided insight into the settlement

clearing process and the clearinghouse’s ongoing efforts to implement a reduced duration of

settlement clearing.

626

3. Key Issues

The hearings brought attention to several significant factors at play during the Meme Stock

Market Event.

a. Gamification

Lawmakers expressed concerns regarding Robinhood’s gamification of stock trading

through the design of its app and the company’s lack of retail investor protections. Representative

Cynthia Axne (D-IA) discussed the negative behavioral implications of the Robinhood app’s

design, arguing that features like virtual confetti celebrating an investor’s trade or constant push

notifications encouraged “more frequent trading” and did not help “people build equity through

smarter investing.”

627

Representatives Emanuel Cleaver (D-MO), Sean Casten (D-ILL), Ritchie Torres (D-NY)

and James Himes (D-CT) cited the passing of Robinhood retail investor Alex Kearns as a tragic

example of the consequences of inadequate consumer protection and regulations over trading

processes.

628

Mr. Kearns had taken his own life after three unsuccessful attempts to contact

Robinhood’s customer service and believing that he had a negative balance of $730,165 on his

account.

629

Ms. Alexis Goldstein from Americans for Financial Reform also questioned “the way

that Robinhood may be enticing people who may not have the needed expertise to trade.”

630

Mr.

Keith Gill testified that, from his perspective as an investor, “increased transparency could help”

in understanding the market and would be “beneficial to retail investors.”

631

624

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part III (May 06, 2021).

625

Id.

626

Id.

627

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide (Feb. 18, 2021).

628

Id.

629

Maggie Fitzgerald, Robinhood sued by family of 20-year-old trader who killed himself after believing he racked

up huge losses, CNBC (Feb. 08, 2021).

630

House Committee on Financial Services, Virtual Hearing – Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part II (Mar. 17, 2021).

631

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide (Feb. 18, 2021).

125

At the March 17, 2021 hearing, Dr. Vicki Borgen shared that trading app’s interface and

design “influence the type of decision that a retail investor makes almost on an unconscious level”

and could elicit “particular behaviors [that are] not beneficial for retail investors.”

632

At the May

6, 2021 hearing, SEC Chair Gensler testified that the SEC would continue to review the effects of

gamification on retail investors, stating some broker-dealers, like buildings in “Las Vegas and

Atlantic City… [are] using psychological prompts and behavioral prompts to get investors to trade

more.”

633

b. Payment for Order Flow

At the February 18, 2021 hearing, members of Congress questioned Robinhood’s revenue

model, particularly the share of revenue the company derives from PFOF. Representative Axne

stated that this arrangement resulted in retail investors serving as Robinhood’s “product,” which

was sold to its “customer,” Citadel Securities and other market making firms that could result in a

hidden cost to customers if it resulted in higher charges than what could be obtained from other

market makers.

634

Representatives Brad Sherman (D-CA), Torres, and Alexandra Ocasio-Cortez

(D-N.Y.) highlighted that PFOF established a “hidden cost to investors” which could potentially

conflict with broker-dealers’ duty to its customers of best trade execution.

635

At the March 17, 2021 hearing, Mr. Sal Arnuk, a partner at Themis, LLP, argued that PFOF

“distorts order routing” because it does not account for odd lot orders that retail investors using

apps like Robinhood primarily trade.

636

He also stated that due to PFOF arrangements, Robinhood

“abandoned its … education and its suitability requirements … because it has this massive

incentive to do so.”

637

Mr. Kelleher stated that the app’s “primary function is not to get people to

invest, it’s to get people to trade” and suggested that the SEC should declare that PFOF “violates

or facilitates the violation of the best execution duty.”

638

Since retail investors compete with

institutions that have maximal resources at their disposal, Mr. Kelleher also remarked that retail

investors “lose consistently … because they’re paying more for every single one of their orders.”

639

Alternatively, Ms. Goldstein pointed out that broker-dealers could pass the payment to consumers

or permit them to opt out.

640

At the May 6, 2021 hearing, regulators weighed in on whether PFOF inherently presents a

conflict of interest. Chairman Gensler argued that there could be an “inherent conflict [] if a broker-

632

House Committee on Financial Services, Virtual Hearing – Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part II (Mar. 17, 2021).

633

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part III (May 06, 2021).

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House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide (Feb. 18, 2021).

635

Id.

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House Committee on Financial Services, Virtual Hearing – Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part II (Mar. 17, 2021).

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126

dealer has arrangements … on payment to order flow” which could oppose upholding consumers’

interests.

641

Mr. Robert Cook also stated that PFOF “does create a conflict,” expressing concerns

over whether an order is routed a certain way because of a rebate or because of actual best

execution and asking whether these concerns are “adequately addressed through disclosure.”

642

c. Social Media and Market Manipulation

At the February 18, 2021 hearing, Representatives David Scott (D-GA) and Josh

Gottheimer (D-NJ) raised concerns about social media’s role in influencing trades, spreading

misinformation, and market manipulation.

643

Reddit CEO Steve Huffman assured lawmakers in

his testimony that the company “ensure[s] the authenticity of [its] communities” and did not

discover evidence of manipulation on the platform.

644

Melvin Capital CEO Mr. Gabe Plotkin

discussed how investors, coordinating through social media, can collectively drive stock prices,

and that the “whole industry will have to adapt.”

645

At the May 6, 2021 hearing, Chairman Gensler responded to questions about the SEC’s

role in preventing market manipulation, especially on social media. He stated that the SEC’s

protective measures would not interfere with “somebody’s free speech rights on social media” but

would seek to “root out” the attempts of large institutions, individuals, or even computer

technology to manipulate capital markets for the purposes of defrauding or misleading

Americans.

646

d. Short Selling and Securities Lending

At the February 18, 2021 hearing, Melvin CEO Mr. Gabriel Plotkin testified that before

the company closed its meme stock positions and incurred losses, his firm had been “shorting

GameStop since Melvin’s inception six years earlier,” and that the company conducts extensive

research before entering a short position for “the long term.”

647

Members including Carolyn

Maloney (D-NY), Sherman, Nydia Velázquez (D-NY), and San Nicolas (D-GUAM) expressed

concerns with the lack of transparency surrounding short-selling.

648

At the March 17, 2021 hearing, the New York Stock Exchange’s Chief Operating Officer,

Mr. Michael Blaugrund, argued that the market on which short-selling depends is “opaque and

inefficient” and aggregate data collected by regulators like FINRA is “insufficient for market

641

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part III (May 06, 2021).

642

Id.

643

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide (Feb. 18, 2021).

644

Id.

645

Id.

646

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part III (May 06, 2021).

647

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide (Feb. 18, 2021).

648

Id.

127

participants or regulators to understand how supply and demand are changing for stock loans.”

649

Mr. Kelleher also urged for increased disclosure on short positions to inform market

participants.

650

At the May 6, 2021 hearing, Mr. Cook responded to Representative Sherman’s question

about FINRA’s disclosure protocols, noting that FINRA is committed to analyzing disclosure

around short positions and soliciting comments to change its procedures around short selling.

651

Chairman Gensler emphasized that appropriate disclosure regimes and other forms of transparency

are “at the heart of investors being able to take risks and understanding their risks.”

652

Chairman

Gensler testified that he has asked SEC staff to propose measures so there is “greater transparency

in the short-selling side.”

653

e. Role of Market Makers

Throughout the series of hearings, Committee members and witnesses expressed concerns

with the imbalanced concentration of market makers executing trades, particularly Citadel

Securities, and how that factors in with PFOF, market stability, and investor protection. At the

February 18, 2021 hearing, Chairwoman Maxine Waters (D-CA) raised concerns about the

systemic implications of Citadel Securities executing nearly half of all retail trades in the United

States at the time of the hearing.

654

Chairwoman Waters argued that Citadel Securities, and similar

market makers’ “business strategy is designed intentionally to undermine market transparency and

skim profits from companies and other investors.”

655

At the March 17, 2021 hearing,

Representative Al Green (D-TX) raised concerns about the possibility of Citadel Securities and

other market makers being able to trade ahead of their customers because they “get to see

unfulfilled orders from customers” and could anticipate the movement of a stock with this data.

Goldstein argued “inherent structural advantages” benefit large players, especially Citadel

Securities, because of its “systemic significance to the financial system.”

656

Because PFOF

protects and furthers these market makers, Mr. Kelleher also argued that retail investors receive

“the worst deal” and only by leveling the imbalance and creating a more transparent, accountable,

and fair system would retail investor confidence increase.

657

649

House Committee on Financial Services, Virtual Hearing – Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part II (Mar. 17, 2021).

650

Id.

651

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part III (May 06, 2021).

652

Id.

653

Id.

654

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide (Feb. 18, 2021).

655

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide (Feb. 18, 2021).

656

House Committee on Financial Services, Virtual Hearing – Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part II (Mar. 17, 2021).

657

Id.

128

At the May 6, 2021 hearing, Chairman Gensler emphasized that trading ahead of a

customer’s order was already prohibited.

658

He also noted that PFOF enabled “one or two

wholesalers to have a dominant share in the retail market” and this concentration leads to concerns

over market fragility and “competitive advantage[s] on the rest of the market” that may be gained

by these entities from the data they collect.

659

f. Settlement Clearing Cycle

Across all three hearings, Committee members were interested in learning more about the

DTCC’s trade settlement clearing process (which currently operates on a “T+2” timeframe

consisting of two business days to clear and settle a trade after it is executed) and how its collateral

requirements are impacted during periods of significant market volatility.

At the March 17, 2021 hearing, Mr. Piwowar argued that shortening the cycle could lead

to operational risks.

660

Ms. Goldstein disagreed, however, stating that existing capital deposit

requirements were the primary reason Robinhood established restrictions, alleging that it was

“Robinhood’s inability to manage its own risk and not any fault of any regulation.”

661

Dr. Bogan

stated that had Robinhood “not been able to make [the] deposit requirement … SIPC… Securities

Investor Protection Corporation … would take over” to protect investors.

662

At the May 6, 2021 hearing, DTCC CEO Michael Bodson testified that the organization’s

clearing process “protects both firms and their customers against default … risk” by “collecting

margin … which is money that clearing members post as collateral.”

663

Mr. Bodson also discussed

the correlation between increased market volatility and margin requirements due to higher risks in

a member’s portfolio.

664

The day before the Meme Stock Market Event, Mr. Bodson stated that

the NSCC processed an unprecedented amount of 474 million transactions (versus approximately

200 million on a normal day).

665

Lawmakers also inquired about the implications of a reduced settlement cycle. Mr. Bodson

asserted that reducing the settlement clearing time would decrease the value of capital

clearinghouse members needed to maintain on deposit with the NSCC.

666

Mr. Bodson testified

that a shortened cycle would “enhance market resilience,” reduce margin requirements by forty

percent, and “lower costs for investors.”

667

Since the Meme Stock Market Event, the DTCC has

658

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part III (May 06, 2021).

659

Id.

660

House Committee on Financial Services, Virtual Hearing – Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part II (Mar. 17, 2021).

661

Id.

662

Id.

663

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part III (May 06, 2021).

664

Id.

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129

engaged with the Securities Industry and Financial Markets Association (SIFMA) and the

Investment Company Institute (ICI) to advance “in-depth analysis on the next steps to achieving

T+1,” and expects to shorten its settlement cycle to T+1 within the timespan of a few years.

668

g. Regulatory Solutions and Further Considerations

At the March 17, 2021 hearing, industry experts suggested several ways that regulators

could reduce systemic risks and ensure that retail investors are protected. Mr. Piwowar believes

that the SEC should address rulemaking changes through its cost-benefit analysis and review Rule

605 reports from market maker firms to understand the execution quality of trades.

669

Rule 605

requires market makers to provide certain order execution information such as effective spreads

for customers routed to a market center and the extent to which market centers provide executions

at prices different from public quotes to investors.

670

Ms. Goldstein encouraged regulators to use

enforcement actions and conduct investigations to ensure consumers are adequately protected

notwithstanding the use of payment for order flow.

671

She also suggested that Treasury Secretary

Janet Yellen could restart the working group at the Financial Stability Oversight Council (FSOC)

dedicated to analyzing risk in the system caused by hedge fund activity and to also enhance the

tools that can identify systemic risks overall in the system.

672

Mr. Kelleher emphasized that the SEC should investigate market makers and not exclude

them from Regulation SCI.

673

Regulation SCI currently applies to self-regulatory organizations

such as FINRA and the MSRB, as well as stock and options exchanges, clearing agencies, and

others—the regulation requires entities to maintain “written policies and procedures reasonably

designed to ensure that their systems have levels of capacity, integrity, resiliency, availability, and

security adequate to maintain their operational capability and promote the maintenance of fair and

orderly market.”

674

At the May 6, 2021 hearing, regulators shared their efforts post-January 28, 2021 to

assessing whether the existing regulatory framework can protect investors against future market

volatility. Chairman Gensler testified that the SEC was working on recommendations and releasing

a report that would detail the activities surrounding the events in January 2021.

675

FINRA CEO

Mr. Cook mentioned that the organization has “established an internal working group …

668

Michael Bodson et al., A Shorter Settlement Cycle: T+1 Will Benefit Investors and Market Participant Firms by

Reducing Systemic and Operational Risks, DTCC (May 4, 2021); DTCC, DTCC Proposes Approach to Shortening

U.S. Settlement Cycle to T+1 Within 2 Years (Feb. 24, 2021);

669

House Committee on Financial Services, Virtual Hearing – Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part II (Mar. 17, 2021).

670

FINRA, SEC Rule 605 (accessed on. Jul. 14, 2021).

671

House Committee on Financial Services, Virtual Hearing – Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part II (Mar. 17, 2021).

672

Id.

673

House Committee on Financial Services, Virtual Hearing – Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part II (Mar. 17, 2021); SEC, Responses to Frequently Asked

Questions Concerning Regulation SCI (last modified Aug. 21, 2019).

674

SEC, Responses to Frequently Asked Questions Concerning Regulation SCI (last modified Aug. 21, 2019).

675

House Committee on Financial Services, Virtual Hearing - Game Stopped? Who Wins and Loses When Short

Sellers, Social Media, and Retail Investors Collide, Part III (May 06, 2021).

130

investigating whether it’s broker-dealers members comply with SEC and FINRA rules” and

“issued regulatory notices reminding firms of relevant duties and responsibilities in this area.”

676

In response to Robinhood’s customer service and transparency issues, FINRA is also looking at

“the minimum levels of support customers might need.”

677

The DTCC continues to work on

decreasing the settlement time to T+1.

678

4. Proposed Legislation

Based on its detailed and focused consideration of the Meme Stock Market Event, and

building upon lessons learned from public hearings, this investigation and policy analysis, the

Committee drafted legislation to address many of the issues highlighted by these market events,

specifically:

• H.R. 4618, Short Sale Transparency and Market Fairness Act, to amend the Securities

Exchange Act of 1934 to modernize reporting requirements under section 13(f) of such

Act, and for other purposes:

• Summary: This bill modifies the reporting requirements applicable to certain

institutional investment managers that have more than $100 million in assets under

management and that are required to file ownership reports with the SEC, by (1)

reducing the reporting window from 45 days to 10 days after the end of each month for

such asset managers, and (2) expanding such reports to require reporting of direct or

indirect derivative positions or interests (including short positions). The bill also

requires the SEC to (1) issue rules for the public disclosure of short sale activity by

institutional investment managers, and (2) report on the standards and criteria

determining whether confidential treatment applies to certain reports filed by

institutional investment managers.

• Status: Introduced in the House of Representatives and referred to the House

Committee on Financial Services on July 22, 2021. Consideration and Mark-up sessions

held on July 28, 2021, and July 29, 2021. Ordered to be Reported in the Nature of a

Substitute (Amended) by the Yeas and Nays: 27—22 on July 29, 2021.

• H.R. 4685, Trading Isn’t a Game Act, to require the Government Accountability Office

to carry out a study on the impact of the gamification, psychological nudges, and other

design techniques used by online trading platforms, and for other purposes:

• Summary: This bill would require the GAO to conduct a study on the impact of

gamification, psychological nudges, and other design techniques by online trading

platforms, including whether such techniques are detrimental to investors or empower,

inform, and educate them, among other potential impacts. The Comptroller General of

the GAO would be required to issue the report within 270 days to the Office of the

676

Id.

677

Id.

678

Id.

131

Investor Advocate of the SEC and the Congress. The Investor Advocate shall then

review the report and issue any regulatory or legislative recommendations within 90

days.

• Status: Introduced in the House of Representatives and referred to the House

Committee on Financial Services on July 26, 2021. Consideration and Mark-up sessions

held on July 28, 2021, and July 29, 2021. Ordered to be Reported in the Nature of a

Substitute (Amended) by the Yeas and Nays: 28—23 on July 29, 2021. Reported

(Amended) by the House Committee on Financial Services and placed on the Union

Calendar, Calendar No. 165 on January 20, 2022.

• H.R. , to amend the Securities Act of 1934 to establish certain requirements with

respect to retail investor options trading, and for other purposes: this discussion draft

would require enhancements for retail customers who engage in options trading, including

preventing broker dealers from offering retail customers monetary and non-monetary

incentives that encourage options trading; and would require broker dealers to disclose to

customers the percentage of the broker dealer’s retail client accounts that lose money on such

options trading.

• H.R. 4617, to require the Securities and Exchange Commission to carry out a study on

payment for order flow, to require the Investor Advocate of the Commission to provide

recommendations on payment for order flow, and for other purposes:

• Summary: This bill would require the SEC to carry out a study on payment for order

flow received by brokerage firms for routing customer orders to market centers. The

SEC would be required to issue the report with all findings and determinations to the

Congress within 180 days. The SEC shall then issue rules consistent with the results of

the study within 18 months, including to prohibit or limit payment for order flow if

warranted. The SEC may issue such rules before the completion of the study if the SEC

determines it necessary or appropriate.

• Status: Introduced in the House of Representatives and referred to the House

Committee on Financial Services on July 22, 2021. Consideration and Mark-up sessions

held on July 28, 2021, and July 29, 2021. Ordered to be Reported in the Nature of a

Substitute (Amended) by the Yeas and Nays: 28—22 on July 29, 2021.

• H.R. 4619, to amend the Securities Exchange Act of 1934 to prohibit trading ahead by

market makers, and for other purposes:

• Summary: This bill would statutorily prohibit market makers from “trading ahead”;

require the CEO of each market maker to annually certify that the CEO has performed

reasonable due diligence during the reporting period to ensure the market maker has not

traded ahead; and would impose personal liability on any associated person of a market

maker who knowingly and willfully trades ahead, directs another associated person to

132

trade ahead, or is personally unjustly enriched by trading ahead. The bill requires the

SEC to issue rules carrying out the legislation within 90 days.

• Status: Introduced in the House of Representatives and referred to the House

Committee on Financial Services on July 22, 2021. Consideration and Mark-up sessions

held on July 28, 2021, and July 29, 2021. Ordered to be Reported in the Nature of a

Substitute (Amended) by the Yeas and Nays: 27—22 on July 29, 2021.

133

APPENDIX III: THE U.S. GOVERNMENT ACCOUNTABILITY

ORGANIZATION (GAO) FOUND SIGNIFICANT GAPS IN THE

SEC’S OVERSIGHT OF FINRA IN CONGRESSIONALLY

MANDATED REPORTS

Section 964 of the Dodd-Frank Act (Section 964) requires the U.S. Government

Accountability Organization (GAO) to periodically evaluate the SEC’s oversight over FINRA and

submit a report to the House Committee on Financial Services and the Senate Committee on

Banking, Housing, and Urban Affairs.

679

The GAO’s reports have been duly issued and submitted

to Congress in 2012, 2015, 2018, and 2021 and have regularly found deficiencies and opportunities

for improvement in the SEC’s oversight of FINRA.

680

December 2021 GAO Report

The GAO submitted its most recent report to Congress in December 2021 (GAO-21-

576SU) and found material actions the SEC could take to improve its oversight of FINRA.

681

The

GAO reviewed all 69 SEC inspections or examinations that the SEC conducted of FINRA in fiscal

years 2018, 2019, and 2020.

682

SEC oversight focused on FINRA’s policies and procedures and

the execution thereof, as well as issues such as timeliness, staffing, and training.

683

The SEC’s

679

The statute requires the SEC to conduct oversight of national securities associations registered under Section 15A

of the Securities Exchange Act of 1934. FINRA is currently the only national securities association and self-regulatory

organization registered with the SEC under Section 15A of the Securities Exchange Act of 1934. H.R. 4173

, 111

Cong. (2010).

680

Id. These statutorily mandated reports are required to evaluate the SEC’s oversight of FINRA with respect to 10

specified areas—governance, examinations, executive compensation, arbitration services, advertising reviews,

cooperation with States, funding, employment of former employees, rules, and transparency—as well as any other

issue determined by the GAO to have an impact on FINRA’s effectiveness.

681

GAO, Securities Regulation – SEC Could Take Further Actions to Help Achieve Its FINRA Oversight Goals, at 18

(Dec. 2021) (GAO-22-105367).

682

GAO, Securities Regulation – SEC Could Take Further Actions to Help Achieve Its FINRA Oversight Goals, at 8

(Dec. 2021) (GAO-22-105367).

683

According to the 2021 report, FSIO issued deficiency letters to FINRA listing suggestions for improvements in its

operations and the deficiencies it found. For 11 of 13 FINRA program inspections reviewed by FSIO, 43 out of 81

findings were for deficiencies and about 50% of all findings related to maintaining inadequate policies or procedures.

FSIO had also determined that there were instances when FINRA staff had not correctly applied its own sufficient

policies and procedures. For all 10 thematic oversight examinations conducted by FINRA in the period reviewed, 95

of 112 findings were for deficiencies. Most findings of deficiency related to examiners incorrectly executing

examination procedures (58 out of 112). FSIO also discovered instances where FINRA inadequately defined the scope

of examinations (43 out of 112), with some examinations excluding reviews of transactions and registered persons

that were relevant and should have been considered. There were 37 findings related to FINRA’s insufficient

documentation or retention of materials associated with examination decisions and files. FSIO additionally identified

24 instances where FINRA’s policies and procedures were found to be inadequate and 12 broker-dealers rule

violations missed by FINRA in its initial examination of firms. 76 deficiency findings were noted in 36 of 44 FINRA

single oversight examinations. FSIO similarly determined that in single oversight examinations FINRA had

conducted, the SRO maintained inadequate policies and procedures, poorly documented and retained materials, and

missed 24 rule violations during its initial review of firms. GAO,

Securities Regulation – SEC Could Take Further

Actions to Help Achieve Its FINRA Oversight Goals, at 10 (Dec. 2021) (GAO-22-105367).

134

program for examining FINRA, known as the FINRA and Securities Industry Oversight

Examination Program (FSIO), highlighted multiple areas of concern with FINRA’s program

inspections, thematic oversight examinations, and single oversight examinations conducted in the

aforementioned period.

GAO Report (GAO-21-578SU) Chart of Findings in FSIO Reviews of FINRA

The GAO’s 2021 review found that the SEC frequently identified deficiencies in FINRA

activities, and in response FINRA typically proposed corrections to those deficiencies.

684

However, the GAO found that the SEC lacked important components of a risk-based program the

GAO had previously recommended.

685

The GAO stated that the SEC performance measures were

task-oriented instead of outcome-oriented and therefore not in keeping with leading best

practices.

686

More critically, the GAO found that the SEC did not have documented policies and

procedures for tracking FINRA deficiencies and corrective actions.

687

SEC officials informed the

684

GAO, Securities Regulation – SEC Could Take Further Actions to Help Achieve Its FINRA Oversight Goals, at 11

(Dec. 2021) (GAO-22-105367).

685

GAO, Securities Regulation – SEC Could Take Further Actions to Help Achieve Its FINRA Oversight Goals, at

11-12 (Dec. 2021) (GAO-22-105367).

686

GAO, Securities Regulation – SEC Could Take Further Actions to Help Achieve Its FINRA Oversight Goals, at 13

(Dec. 2021) (GAO-22-105367).

687

GAO, Securities Regulation – SEC Could Take Further Actions to Help Achieve Its FINRA Oversight Goals, at 15

(Dec. 2021) (GAO-22-105367).

135

GAO that FINRA is not under a requirement to implement corrective actions if no rule violation

was identified by the SEC, and there is little federal law controlling how FINRA must carry out

its obligations.

688

Therefore, SEC oversight often results in observations ranging from minor to

noteworthy that are intended to improve FINRA’s processes or procedures but which are not

consistently tracked outside of the formal examinations system.

689

The GAO recommended that

the SEC develop performance measures for its FINRA oversight, develop policies and procedures

for tracking deficiencies and corrective actions, and develop procedures for identifying and

communicating the significance of oversight findings.

690

April 2015 and July 2018 GAO Reports

In its April 2015 (GAO-15-376), the GAO recommended enhancements to the SEC’s

oversight of FINRA, largely regarding the adoption of a risk-management framework.

691

The

GAO found that the SEC had successfully incorporated elements of this framework into its FINRA

oversight, but that it still lacked certain components.

692

Specifically, the SEC needed to develop

performance targets in order to monitor its goal of improving oversight of FINRA; formalize and

document its FINRA oversight objectives; and assess its own internal risks (e.g., staff availability,

competing priorities) in order to achieve its oversight goals.

693

In 2015, the GAO declared that a

proper assessment of the SEC’s oversight of FINRA could not be assured because the SEC had

not fully implemented a risk-management framework in line with general auditing principles used

688

Id.

689

GAO, Securities Regulation – SEC Could Take Further Actions to Help Achieve Its FINRA Oversight Goals, at 14

(Dec. 2021) (GAO-22-105367).

690

In its comment letter responding to the GAO’s analysis, SEC noted that findings are tracked in a spreadsheet and

are communicated through an informal process but that it would develop policies and procedures to formalize both

processes. GAO,

Securities Regulation – SEC Could Take Further Actions to Help Achieve Its FINRA Oversight

Goals, at 18-19 (Dec. 2021) (GAO-22-105367).

691

GAO, Securities Regulation – SEC Can Further Enhance Its Oversight Program of FINRA, at 29-30 (April 2015)

(GAO-15-376).

692

GAO, Securities Regulation – SEC Can Further Enhance Its Oversight Program of FINRA, at 10 (April 2015)

(GAO-15-376).

693

GAO, Securities Regulation – SEC Can Further Enhance Its Oversight Program of FINRA, at 30 (April 2015)

(GAO-15-376).

136

by other agencies.

694

Apparently satisfied by the SEC’s progress toward this end, the GAO’s July

2018 report provided no recommendations for improvement.

695

May 2012 GAO Report

In its May 2012 report (GAO 12-625), the GAO identified multiple opportunities for the

SEC to improve oversight of FINRA.

696

First, the GAO found that, other than FINRA regulatory

programs relating to examinations, surveillance, and enforcement, the SEC conducted little to no

oversight of other FINRA operations.

697

As a result, the GAO found that, of the 10 major areas

identified for evaluation in Section 964 of the Dodd-Frank Act, the SEC conducted annual or

continuous oversight in only 3 of those areas, only occasional oversight in 4 areas, and no oversight

at all in 3 areas.

698

694

GAO’s April 2015 report noted substantive improvements to the SEC’s oversight of FINRA. The SEC created the

new role of “Senior Counsel-FINRA and New Markets” to monitor FINRA generally and coordinate FINRA

oversight. SEC inspections of FINRA in 2014 were conducted largely as planned, and the SEC had adjusted its

oversight of certain Section 964 areas of evaluation with the aim of addressing them all by year 2015. However, the

GAO failed to elaborate on details of these adjustments. The GAO stated that the SEC had recently completed

inspections of each Section 964 area of evaluation, but GAO reviewed key inspection documents for only 4 out of the

10 Section 964 areas, and the GAO stated that it did not attempt to assess the validity of any of the inspections. The

GAO stated that because the SEC had not fully implemented and documented the risk-management framework

recommended by the GAO, the SEC’s fulfillment of its oversight responsibilities may not be fully assured. However,

extensive analysis was provided on whether SEC oversight of FINRA was consistent with accepted government

auditing standards. The GAO’s only concluding recommendations were regarding the implementation of risk-

management practices.

695

The GAO’s July 2018 report (GAO-18-522) identified no major areas for improvement. The GAO found that from

October 2014 to April 2018, the SEC had conducted oversight of FINRA in each of the 10 areas of evaluation specified

in Section 964 and selected the SEC guidance used to examine FINRA adhered to generally accepted government

auditing standards. However, the GAO stated that it reviewed examinations only to determine if the SEC followed

certain guidelines, and the GAO did not evaluate the content of the examinations. The only Section 964 area of focus

in the GAO’s July 2018 report was the SEC’s inspections of FINRA governance. The GAO concluded that the SEC’s

inspections of FINRA governance were consistent with SEC’s internal guidance regarding inspections; and the results

of the five governance inspections by the SEC of FINRA from 2015 to 2017 were summarized positively but with

little analysis. GAO,

Highlights of Securities Regulation – SEC Inspections of Financial Industry Regulatory

Authority’s Governance Were Consistent with Internal Guidance, at 11-12 (July 2018) (GAO-18-522).

696

GAO, Highlights of Securities Regulation – Opportunities Exist to Improve SEC’s Oversight of the Financial

Industry Regulatory Authority (May 2012) (GAO-12-625).

697

GAO, Securities Regulation – Opportunities Exist to Improve SEC’s Oversight of the Financial Industry

Regulatory Authority, at 7 (May 2012) (GAO-12-625).

698

The thrust of the SEC’s oversight was on FINRA’s 16 regulatory programs enforcing securities laws and FINRA

rules, and 29 such inspections of FINRA district offices were conducted from 2005 to 2010. However, oversight of

other, non-regulatory programs occurred even less frequently than planned. For instance, the SEC planned to inspect

FINRA’s regulation of broker-dealer advertising once every four years, but the most recent inspections had occurred

only in 1998 and 2005; and the SEC planned to review FINRA’s arbitration program on a two-year cycle, but

inspections had occurred only in 2000, 2005, and 2010. That stated, the GAO determined that the inspections that

were completed, although infrequent, were executed well.

698

For its part, the SEC stated that the lack of inspections

in non-regulatory areas was due to competing priorities or a lack of resources. The GAO also found significant gaps

in the SEC’s oversight of FINRA rulemaking. A proposed FINRA rule subject to approval by the SEC undergoes a

formal process to determine if the rule is consistent with securities laws and regulations as well as if the proposed rule

complies with requirements for providing adequate information for public comment. However, neither SEC nor

FINRA had a formal process of conducting retrospective reviews of FINRA rules. Therefore, neither SEC nor FINRA

were in a position to systematically assess whether FINRA rules were efficacious and, if not, whether to modify or

repeal rules as appropriate. The GAO also recommended that the SEC revise its oversight of FINRA from a routine,

cycle-based approach to a risk-management framework, which emphasizes those areas that present the greatest

potential risk to an organization. The SEC stated that it was in the process of implementing such an approach in its

oversight. However, the GAO found that while the SEC had collected and analyzed a substantial amount of

information toward completing this process, the implementation of all elements of a risk management framework had

not been fully articulated or documented. GAO,

Securities Regulation – Opportunities Exist to Improve SEC’s

Oversight of the Financial Industry Regulatory Authority (May 2012) (GAO-12-625).