Robinhood responds to market manipulation claims in short squeeze lawsuit

About a month after Robinhood was hit with another class action complaint related to its actions during the January short squeeze, the online trading company has responded to the accusations.

This is a class action on behalf of persons or entities who held common stock in AMC Entertainment Holdings, Inc., Bed Bath & Beyond Inc., BlackBerry Ltd., Express Inc., GameStop Corp., Koss Corp., Tootsie Roll Industries Inc., or American Depositary Shares of foreign-issuers Nokia Corp., and trivago N.V. as of the close of trading on January 27, 2021, and sold such shares at a loss between January 28, 2021, and February 4, 2021.

The plaintiffs accuse Robinhood of violations of Section 9(a) of the Exchange Act and of violations of Section 10(b) of the Exchange Act and Rule 10b-5.

On January 7, 2022, Robinhood Markets, Inc., Robinhood Financial LLC and Robinhood Securities, LLC (together, “Robinhood”) submitted their response to the complaint at the Florida Southern District Court. The broker seeks to dismiss the complaint for failure to state a claim.

According to Robinhood, the events of January 2021 led to increased trading volatility for a number of “meme” stocks. Trading volume rapidly ratcheted up over the course of several days as retail investors sought to effect a short squeeze in stocks perceived to be the target of short selling by hedge funds. As a result, trading volume and volatility in several stocks reached historic levels on January 27 and 28, 2021.

This led the National Securities Clearing Corporation (“NSCC”), early in the morning on January 28, 2021, to impose large collateral requirements on its members to cover the trade orders and risk, including an unprecedented $3 billion deposit requirement for Robinhood Securities.

Robinhood Securities implemented a “position closing only” (PCO) restriction on 13 of the most volatile stocks. The PCO temporarily restricted purchases of the stocks at issue. It did not restrict sales of those stocks.

Robinhood lifted the PCO restriction for those 13 stocks after a day.

For the next five trading days, Robinhood Securities maintained purchasing limits that temporarily capped the number of shares of certain volatile stocks a customer could hold on Robinhood’s platform.By Friday, February 5, 2021, Robinhood Securities had lifted all of the purchase limits.

Robinhood asserts that the plaintiffs traded in the meme stocks both during and after the January 2021 short squeeze and now seek to blame Robinhood for losses from their decision to sell some of those stocks while Robinhood’s PCO was in place. The defendant stresses that the plaintiffs bring their claims on behalf of a putative class of all investors in the United States—including non-Robinhood customers, with whom Robinhood never interacted—who held any of the nine Affected Stocks on January 27, 2021, and sold shares of those stocks at a loss during the alleged Class Period of the six trading days from January 28 through February 4, 2021. Robinhood did nothing to force them to sell.

Plaintiffs assert claims for market manipulation under Sections 9(a) and 10(b) of the Securities Exchange Act (the “Exchange Act”). They allege that Robinhood put in place its purchasing limits with the knowledge that doing so would drive down the market prices of the Affected Stocks. Robinhood argues that market manipulation claims under either section require deception, and there can be no deception where information is publicly disclosed and available to the market. This alone is fatal to Plaintiffs’ claims, Robinhood says.

In addition, according to Robinhood, the traders fail to plead facts that give rise to a strong inference of scienter, as required under either Section 9(a) or Section 10(b). Robinhood asserts that the plaintiffs cannot point to any direct evidence of scienter or articulate a plausible reason why Robinhood would manipulate the market to lower the prices of the Affected Stocks.

The plaintiffs offer two potential motives for Robinhood to allegedly manipulate the prices for the Affected Stocks.

Their first theory is that Robinhood sought to protect a potential future IPO by lowering the prices of the Affected Stocks to meet its deposit requirements. Robinhood says that the success of Robinhood’s IPO, which would not occur for another six months, had nothing to do with the prices at which the Affected Stocks traded.

Plaintiffs’ second theory is that Robinhood acted to help Citadel Securities cover a hypothetical proprietary trading position by driving down the prices of the Affected Stocks. Robinhood argues that this theory lacks a core requirement for a manipulation claim—that Robinhood acted with the intent to drive down the prices of the Affected Stocks and thereby profit from the manipulated stock prices.

Further, the plaintiffs allege a violation of Section 10(b) and Rule 10b-5 based on alleged fraudulent misrepresentations. Specifically, Plaintiffs allege that Robinhood made false statements about Robinhood’s own business that deceived investors in connection with their purchase or sale of securities issued by other companies (the Affected Stocks). None of the Plaintiffs alleges that he or she was an investor in Robinhood (which was not even a public company at the time).

Section 10(b) does not give rise to such an expansive right of action for misrepresentations. Robinhood is unaware of any case in which a court has permitted a Section 10(b) claim for losses in securities issued by Company B based on Company A’s allegedly false statements about Company A’s business.

Robinhood notes that the plaintiffs fail sufficiently to plead a number of other required elements of a Section 10(b) misrepresentation claim including: (1) facts sufficient to show that any of Robinhood’s statements were false or misleading; (2) loss causation, as Plaintiffs do not allege that disclosure of the alleged falsity of Robinhood’s statements affected the price of any of the Affected Stocks; or (3) facts sufficient to establish scienter.

Accordingly, Robinhood argues the Complaint must be dismissed.

Let’s note that Robinhood is targeted in several other complaint tranches in this lawsuit, including the antitrust tranche. The lawsuit represents a multi-district litigation, which consolidates more than 50 lawsuits brought against brokers, clearing houses and hedge funds.