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The trading platform Robinhood was hit with a $1.25 million fine on Thursday by the Financial Industry Regulatory Authority, which charged the brokerage with not following "best execution" practices.

The regulator found that Robinhood routed nondirected stock orders to four broker-dealers that then paid it for the trades. The practice isn't illegal, but Robinhood's methods fell outside the agency's guidelines, it said.

FINRA's laws oblige brokerages to either conduct order-by-order reviews or implement a "regular and rigorous" review program to ensure users are getting the best prices and trade-execution speed possible.

Robinhood has since improved its best-execution processes and "established relationships with additional market makers," a company representative said.

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Robinhood, the buzzy startup that made a name for itself by offering commission-free stock trading, was fined on Thursday by its regulator, which said it found violations around how Robinhood executed clients' trades.

The Financial Industry Regulatory Authority, which regulates US broker-dealers, said it fined Robinhood $1.25 million for "best execution" violations from October 2016 to November 2017. The startup also agreed to bring on an independent consultant to review its "systems and procedures related to best execution," FINRA said.

The regulator found that Robinhood, which was valued at $7.6 billion in July, routed nondirected stock orders to four broker-dealers that then paid it for the orders. The practice, known as payment for order flow, is not illegal. However, brokerages that route trades to outside firms are obliged to either conduct an order-by-order review or implement a "regular and rigorous" review program, FINRA said.

FINRA charged that Robinhood "did not reasonably consider" where it could find the highest-quality trades for its users, focusing only on existing routing partners that paid Robinhood for orders instead of exploring alternatives. Robinhood also did not perform regular best-execution reviews on several order types, including limit trades, stop orders, and after-hours trades, the regulator added.

"Accordingly, hundreds of thousands of orders each month fell outside the firm's 'regular and rigorous' review process," FINRA said.

Robinhood responded quickly, saying that the "historic issue during the 2016-2017 timeframe" wasn't a problem for its current users and that the firm had since implemented a better way to match traders with best-execution practices.

"The facts on which the settlement is based do not reflect our practices or procedures today," a company representative said in an emailed statement. "Over the last two years, we have significantly improved our execution monitoring tools and processes relating to best execution, and we have established relationships with additional market makers."

Order-flow concerns

Concerns about payment for order flow came into the spotlight this year as discount brokerages dropped trading commissions. Some have speculated that brokerages, with the loss of fees, will look to make up the difference by increasing the cost of their order flow, potentially ignoring customers' execution quality.

Speaking at an industry conference in October, Brett Redfearn, the director of Securities and Exchange Commission's trading and markets division, warned brokerages about maintaining their best-execution requirements.

Late last month, Robinhood withdrew its application to become an official bank. The brokerage had filed an application with the Office of the Comptroller of the Currency earlier in 2019 seeking to offer no-fee checking and savings accounts after it botched the launch of such a service in 2018.

The brokerage also fell under regulatory scrutiny in November after members of the WallStreetBets subreddit said they discovered a "free money" trading glitch that allowed them to trade with massive amounts of borrowed cash.

One user said they turned a $2,000 deposit into a $50,000 leveraged stake in Apple options. Other forum members quickly copied the trade with increasingly large sums of borrowed cash, with one even making a hall-of-fame list of the traders who leveraged the most buying power.

Robinhood closed the loophole days later and sent a letter to the traders involved giving them 60 days to pay off any debts and liquidate their accounts.

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