Life as a public company has been a rollercoaster for Robinhood Markets (HOOD 4.44%). It listed on the Nasdaq exchange in mid-2021 at $38 per share, and it quickly soared to an all-time high of $85 as young, first-time investors rushed to its brokerage platform at the height of the pandemic.
Robinhood was unable to maintain that momentum, however, and its stock has since plunged 84% from its peak. The company has consistently lost active users over the last two years, and it has struggled to deliver revenue growth.
Some green shoots in its latest financial results sent its stock soaring 13% the day after they were reported (Feb. 14). However, there is reason to believe Robinhood's largest source of revenue -- which is responsible for most of the company's overall growth lately -- could soon become a drag on its financial results.
Here's why investors might want to express caution before jumping into Robinhood stock.
First, here are the positives on Robinhood
One of my biggest concerns for Robinhood is its user base, which has been shrinking for the last couple of years. Its monthly active users peaked at 21.3 million in mid-2021, but that number has steadily declined to just 10.9 million as of Dec. 31, 2023. Robinhood's clients appear to have soured on the stock market since the S&P 500 plunged into bear territory in 2022.
However, the 10.9 million figure represented an increase of 600,000 users from three months prior, which implies the exodus might be nearing an end. Some of Robinhood's innovations can be credited for the uptick in users, because it's more than just a conventional platform to buy stocks and options contracts -- it now offers cryptocurrency trading, a digital wallet, a debit card, 24-hour stock trading, and even retirement accounts.
Robinhood's cost cuts are also bearing fruit. The company slashed jobs throughout 2022 and 2023 in the wake of its shrinking user base, and although it still lost money in 2023 as a whole, it did deliver two profitable quarters (Q2 and Q4). It's a welcome shift away from Robinhood's growth-at-all-costs strategy, and management intends to focus on profitability going forward.
That should translate to a more sustainable business for the long term, although there is a glaring problem.
Robinhood owes most of its growth to high interest rates, which isn't sustainable
Robinhood generated $471 million in revenue in the fourth quarter of 2023 (ended Dec. 31), which was a 24% year-over-year increase.
Robinhood earns that revenue in two primary ways: First, every time a customer buys or sells a financial asset on the Robinhood platform, the company generates transaction revenue. Second, it earns interest income on the cash it holds for its customers, and on its own cash pile.
Here's the bad news. Transaction revenue -- which is the byproduct of Robinhood's core business -- came in at $200 million in Q4, which represented just 8% growth year over year. Interest income, on the other hand, came in at $236 million, which was a 41% increase.
In fact, Robinhood's transaction revenue declined 4% for the whole of 2023 (compared to 2022), whereas its interest revenue soared 119%.
Between March 2022 and August 2023, the U.S. Federal Reserve raised the federal funds rate (interest rates) from 0.25% to 5.50%. Robinhood has $4.8 billion of its own cash on its balance sheet plus another $4.4 billion it's holding for customers, which it stores in bank accounts that pay interest. Therefore, the company has benefited tremendously from the increase in rates.
But it's unlikely to last. The Fed's own projections point to three interest rate cuts in 2024 alone, and Wall Street is predicting there could be four. That means Robinhood's biggest growth driver could become a devastating drag on its business later this year -- and 2025 will likely yield further rate cuts based on early forecasts.
Image source: Getty Images.
Investors aren't as bullish on Robinhood stock as its recent gain suggests
The 13% pop in Robinhood's stock price following its earnings release was a welcome sight for investors, but I'm not sure if that momentum will continue.
The Wall Street Journal tracks 16 analysts covering Robinhood stock, and just four of them recommend buying. Nine analysts maintain a hold (neutral) rating, with one in the underweight (bearish) camp, and two recommending to outright sell. That isn't a bullish consensus by any stretch of the imagination.
Plus Robinhood's market capitalization currently stands at $11.2 billion. Considering it has $4.8 billion in cash on hand, investors effectively value its business at $6.4 billion. However, with interest income making up half of the company's total revenue in 2023, you might conclude that investors perceive the company's cash as more valuable than its actual brokerage business.
With interest rates set to fall, that doesn't bode well for further gains in Robinhood stock, especially over the long term.
