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Robinhood is being sued over the GameStop meltdown. Do investors have a case?

January 28, 2021, 11:56 PM UTC

Robinhood touched off widespread fury on Wednesday after the popular stock-buying app halted customers’ ability to purchase GameStop and a handful of other stocks that have been the subject of frenetic trading in the past week.

By Thursday afternoon, Robinhood has partially reversed the decision but not before getting smacked with at least two class action lawsuits. The lawsuits claim the company has harmed retail investors by preventing them from profiting by buying the stock or selling it short.

The lawsuits comes as many on social media—which has been fueling eye-popping rallies in GameStop, AMC Cinemas and other once beaten-down stocks—accuse Robinhood of siding with Wall Street bigwigs over ordinary investors.

According to such critics, Robinhood cut off stock purchases in order to help short sellers who had bet the price of GameStop would tumble, but then got battered as retail investors drove it up instead. The controversy has also led members of Congress to demand an investigation of Robinhood.

For now, there’s no clear evidence of a conspiracy between Robinhood and the short sellers, and some market watchers say the move was to protect the company’s own balance sheet. But whatever the reason, Robinhood customers are likely to face an uphill battle in the lawsuit.

While brokers like Robinhood have a fiduciary obligation to execute customer trades at the best price, that doesn’t necessarily mean they must carry out trades in a given security. And in fact, the company might claim it was meeting its obligations by halting trades during a time of extreme volatility, according to Joshua Mitts, a professor at Columbia Law School.

Read: Short selling? Short squeeze? GameStop? What? A beginner’s guide to the most chaotic business news story of 2021

Mitts, who has written extensively about securities law, also notes that the scope of Robinhood’s obligation is determined in part by the company’s terms of service. Those terms, which users must agree to upon signing up, provide the company with ample discretion to operate the platform as it sees fit or even terminate users’ accounts.

Meanwhile, it’s unclear whether the GameStop lawsuits are a serious attempt to help shareholders or simply to extract a quick settlement from Robinhood—a common tactic among a group of law firms who specialize in securities litigation. At least one of the claims feels particularly rushed with the lawyer who filed the case even misspelling “class action.”

Other legal experts have likewise suggested the class action suits against Robinhood are a long shot. A spokesperson for Robinhood declined to comment on the litigation or if the company’s terms of service grant it permission to suspend the purchase of given securities.

The controversy is likely to fuel a long-running debate over whether it is sound policy for brokerages or exchanges to halt trading at the time of extreme volatility. According to Mitts, there is little evidence that such halts serve to protect retail investors. He added that it’s not surprising that many are suspicious of the financial establishment given that hedge funds have long deployed trading strategies, including short selling, that have cost retail investors billions of dollars.

“These retail investors feeling paranoid about the elites, and that institutions are not looking out for their best interests is rooted in experience,” Mitts said. “It’s a justified paranoia based on what’s happened historically.”