Robinhood gets paid for each trade on its platform. Regulators are skeptical of the practice, but what retail traders think is more complicated.

• Robinhood offers free trading to customers because much of its revenue is derived from a practice known as payment for order flow.
• A week after the brokerage app's volatile IPO, questions about the practice are coming back into focus.
• Insider spoke with retail investors, advocacy groups, and market makers to understand the mechanics and sentiment around PFOF.

When Kayla Kilbride filmed a TikTok in February explaining how Robinhood makes money without charging commissions, she didn't anticipate the stampede of furious commenters.

"It was insane," the financial content creator told Insider. "I had so much hate that I immediately removed the video because I thought I was wrong."

Shortly after, experienced traders messaged her saying she was, in fact, explaining payment for order flow correctly. For Kilbride, the incident showed that the heat around PFOF was eclipsing the light. Hardly any commenters fully understood the practice, which accounted for 81% of Robinhood's revenue in the first quarter, according to its S-1 filing ahead of its long-awaited IPO.

Now, a week after the brokerage app's volatile debut, questions about the practice - and whether it hurts users - are coming back into focus.

"Robinhood is 'free' in the same way Facebook is 'free,'" said Andrew Park, senior policy analyst at Americans for Financial Reform, a left-leaning group that opposes PFOF. "You're not paying money out of pocket to do something, and yet you're still the product."

According to Park, the market makers who pay for order flow, like Citadel Securities and Virtu, only do so because it gives them control. Trading against a 25-year-old Robinhood user is far less risky than against a hedge fund, for instance.

Brokers like Robinhood, meanwhile, stand to profit by sending as many orders as possible to market makers. Critics of the practice say this conflict of interest harms retail investors, who get pricier trades as market makers skim off the top.

"The customer ends up none the wiser - but poorer," said Park.

Such concerns spurred the UK and Canadian governments to effectively ban PFOF. A 2016 study of the UK's ban found that it led to retail traders receiving better prices. Its authors argued that eliminating PFOF's conflicts of interest created more efficient, competitive markets.

Likewise, the SEC in December fined Robinhood $65 million for failing to give consumers the best available prices. For bigger trades, the prices were so unfavorable that paying a commission to get standard prices would've left users better off, the agency found.

To Virtu CEO Doug Cifu, this is all bunk.

"The fractions of a penny that are being rebated back to the broker are de minimis [when] compared to the commission dollars you're saving," he said.

Cifu thinks the idea PFOF is a scheme to profit off retail investors is preposterous. Market makers compete on who can best execute trades, a rough-and-tumble business of managing risk and building technology. Even Fidelity, which doesn't do PFOF, routes to Virtu and Citadel Securities for their superior execution, he said.

But Park countered that Fidelity routing to market makers just demonstrates the need for wholesale financial reform beyond banning PFOF.

What retail traders believe is more mixed. Many see PFOF as just another example of companies selling consumer data, said Derrick Fung, CEO of Cardify, an analytics outfit focused on Millennial and Gen Z consumers. The question, then, is what value they get in return.

"With Robinhood, that value is commission-free trading," said Fung.

Cifu disputes that PFOF is akin to selling consumer data. He sees the practice as a cost of business that benefits everyone. Virtu says $3.5 billion went back to retail investors in 2020, thanks to better prices from market makers.

Danny Devan, who runs a 70,000-strong financial Discord group, told Insider he never recommends Robinhood to members because he doesn't believe it gives traders the best prices.

"We are questioning, are we getting the best price? And it's not just Robinhood, it's every broker that does free-commission," said Devan.

Even if PFOF does help retail investors, negative perceptions like Devan's are what matters for Robinhood, said David Keller, chief market strategist at StockCharts.com. Widespread skepticism could even prompt a resurgence in commission-based models with clear fee structures, he added.

That change would be welcome to Devan. He said zero-commissions have encouraged inexperienced investors to trade too much, often to the point of losing money.

"If you go to the casino, the casino makes the most amount of money in the slot machines," Devan said. "People keep playing and playing and playing until they lose."