Katherine Ross

Citadel Securities, in response to a court filing from Terraform Labs earlier this month, says it had nothing to do with the 2022 depeg of the stablecoin UST.&nbsp;



In a filing that pushes back against a motion to compel by Terra, Citadel claimed that Terra is attempting to “deflect” from allegations that it conspired with Jump Trading to “pump up the asset prices.”



“Terraform uses a motion to compel to pursue a ridiculous conspiracy theory ‘exposing’ the purportedly hidden role of Citadel Securities in its self-imposed disaster. Not only is the time period of the request irrelevant, but the theory is baseless,” the filing said.



<a href="https://blockworks.co/tag/terraform-labs">Terraform</a> did not immediately respond to a request for comment.



“Its motion rests on social media, including the account of pseudonymous user ‘Gigantic Rebirth’ who posted that [Citadel Securities CEO] Ken Griffin divulged his plans over their twice monthly lunch and a ‘nice bacon rib.’ This, of course, is absurd on its face.”



<a href="https://blockworks.co/tag/citadel-securities">Citadel</a> asked the court to deny Terraform’s motion to compel, alleging that it only ever engaged in “two test transactions with a collective value of roughly [$0.13],” and therefore didn’t cause the depeg.



Citadel alleges that it gave Terraform discovery “showing that it did not meaningfully trade in the relevant cryptocurrencies,” making “an exploration of Citadel Securities’ trading strategies particularly unhelpful and irrelevant.”



But Citadel goes further than asking the court to toss the motion from Terraform. It also asks the court to “sanction Terraform for its spurious and harassing request” arguing that it complied with the necessary discovery, and the motion to compel was Terra acting in “bad faith.”



If the court pushes forward with sanctions, Terra could be on the hook to pay attorney’s fees and possibly even “lost earnings,” though figures of either were not disclosed.



Terraform, on Oct. 12, <a href="https://blockworks.co/news/terraform-citadel-securities-depeg">filed the motion to compel against Citadel Securities</a> alleging that social media posts pointed to Citadel Securities as being behind the UST depeg. However, one of the posts mentioned also referred to Citadel’s involvement as a “rumor” and another claimed that an anonymous Discord user had lunch with Griffin.



Terraform faces legal action from the US Securities and Exchange Commission over the 2022 depeg. The <a href="https://blockworks.co/news/sec-charges-do-kwon-terraform-labs-with-fraud-misleading-investors">SEC filed a lawsuit against Terra, and former CEO Do Kwon</a> back in February.



Following the Ripple ruling — which saw a federal judge <a href="https://blockworks.co/news/judge-rules-ripple-xrp-not-security">partially side</a> with Ripple — Terraform tried to use the <a href="https://blockworks.co/news/terraform-lawyers-use-ripple-ruling-dismiss-suit">ruling to dismiss their suit back in July</a>. 



Judge Jed Rakoff, the judge overseeing the case, <a href="https://blockworks.co/news/terraform-labs-opinion-ripple">argued that the token sales</a> went toward building the Terraform blockchain and therefore generated profit for all holders. That opinion seemed to be at odds with the partial ruling from Judge Analisa Torres, who is overseeing the Ripple case.



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Citadel Securities says Terraform acted in ‘bad faith’ by alleging role in UST depeg

Terraform Labs filed for a motion to compel Citadel Securities to “produce certain data responsive to a third-party subpoena” which it argues is “vital” to its defense in the US Securities and Exchange Commission’s lawsuit against the company and its former CEO, Do Kwon.



The motion to compel says that the company served subpoenas to both Citadel Securities and Citadel Enterprise Americas, specifically targeting trading data “related to the May 2022 Depeg.”



“[Terraform] has pointed to publicly available evidence suggesting that the head of the Citadel Entities, Ken Griffin, intended to short UST at or about the time of the May 2022 Depeg.&nbsp;



Moreover, as also set forth below, Movant has now obtained evidence suggesting one Citadel Securities may actually have had a connection to the May 2022 Depeg — despite the fact that Citadel Securities publicly denied ever having traded in UST during that depeg event.”



They claim that a document — though it’s unclear what type of document — was produced.



“The information that [<a href="https://blockworks.co/tag/terraform-labs">Terraform</a>] seeks here from <a href="https://blockworks.co/tag/citadel-securities">Citadel Securities</a> is limited: documents describing any trading strategy in any of the Terra-Native Tokens or the Terra Financial Instruments during the time period March 1, 2022 through May 31, 2022,” it said.



Terraform says that Nansen data helped point them to “seven so-called ‘whale’ traders — well-funded, established traders which have the ability and determination to take very long or short positions in an asset or financial instrument.”



Further, the data also “revealed that a small number of players identified vulnerabilities early into the UST de-peg.”



Read more: <a href="https://blockworks.co/news/tangible-real-usd-illiquid-stablecoin-real-world-assets">Not so Tangible? Real USD stablecoin turns illiquid</a>



Terraform clarified that it issued subpoenas to “certain market participants,” with two going to the aforementioned Citadel Entities.&nbsp;



The firm cited a Discord chat screenshot in the filing showing an anonymous trader who claimed to have had lunch with Citadel CEO Ken Griffin. The screenshot, which is just quoted in the filing, allegedly claimed that Griffin planned to “Soros the f*** out of Luna UST.” Soros, presumably, is in reference to George Soros. As part of his strategy, Soros puts his weight either in favor of or against his target, speculating whether it’ll rise or fall.



Another post cited in the document is one from @JacobCanfield on X — formerly Twitter — which claimed back in May 2022 that “rumor is Citadel is the culprit.”



Citadel has previously denied rumors, telling former Blockworks editor-in-chief Dan Keeler that it “does not trade <a href="https://blockworks.co/tag/stablecoins">stablecoins</a>, including UST” according to a <a href="https://twitter.com/dankeeler/status/1524466267054395394?lang=en">post</a> on X back in May 2022. The post was also cited in the filing.



In response to the initial subpoenas, Citadel told Terraform, “Citadel has no trading in the Terra Financial Instruments or the Terra-Native Tokens and therefore has no responsive documents.”



“This frivolous motion is based on false social media posts and ignores information we already provided confirming we had no role whatsoever in this matter,” a Citadel Securities spokesperson said in an email to Blockworks.



Terraform argued in its filing that the trading data should be turned over by Citadel because it could impact the <a href="https://blockworks.co/tag/sec">SEC’s</a> case against Terraform, and also “presents little or no burden to Citadel Securities.&nbsp;



Read more: <a href="https://blockworks.co/news/judge-denies-terraform-motion-dismiss">Judge shuts down Terraform’s motion to dismiss, despite use of Ripple ruling</a>



The Southern District of Florida has yet to weigh in on the filing from Oct. 10, though Terraform requested a transfer of the filing to the Southern District of New York, where the SEC’s case is based, to allow Judge Jed Rakoff to oversee the motion. Rakoff is the presiding judge on SEC v. Terraform.



Updated Oct. 12, 2023 at 2:39 pm ET: Added statement from Citadel Securities.



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Terraform targets Citadel Securities alleging potential connection to UST depeg

Ben Strack

<div id="highlights-block_6320afdda7b47" class="highlights">
 <ul>
 <li>Former Citadel Securities business development head leads EDX Markets as its CEO</li>
 <li>The exchange’s general counsel formerly worked in the same role at Fidelity Investments’ digital assets arm</li>
 </ul>
 
</div>



A new crypto exchange has gained the support of a swath of broker-dealers, market makers and venture capital firms as executives from the companies comprise the young company’s leadership.



Charles Schwab, Citadel Securities, Fidelity Digital Assets, Paradigm, Sequoia Capital and Virtu Financial are among the backers for the new company, called EDX Markets. The exchange is set to go live in early 2023, according to a spokesperson.



<a href="https://www.linkedin.com/in/jamil-nazarali-2016044/" target="_blank" rel="noreferrer noopener">Jamil Nazarali</a>, the former global head of business development at Citadel Securities, joined EDX Markets as its CEO in July. <a href="https://www.linkedin.com/in/tony-acu%C3%B1a-rohter-a357879/" target="_blank" rel="noreferrer noopener">Tony Acuña-Rohter</a>, previously a chief technology officer at ErisX, now works in the same role for the new exchange. <a href="https://www.linkedin.com/in/david-a-forman-51726355/" target="_blank" rel="noreferrer noopener">David Forman</a>, a former chief legal officer at Fidelity Brokerage Services and general counsel for Fidelity Digital Assets, is EDX Market’s general counsel.&nbsp;



Representatives from the founding member firms comprise EDXM’s board of directors.



“Crypto is a $1 trillion global asset class with over 300 million participants and pent-up demand from millions more,” the company’s board said in a statement. “Unlocking this demand requires a platform that can meet the needs of both retail traders and institutional investors with high compliance and security standards.”



The exchange seeks to aggregate liquidity from multiple market makers to reduce spreads, improve transparency and lower investor costs, a company spokesperson told Blockworks. MEMX will provide the technology infrastructure for EDX Markets.



The participation from companies such as Charles Schwab and Fidelity Digital Assets in launching the exchange marks a continued interest in crypto from the financial services titans.&nbsp;



The latter company’s parent company moved to allow certain US workers to <a href="https://cms.blockworks.co/fidelity-delves-deeper-into-crypto-by-allowing-bitcoin-in-401ks/" target="_blank" rel="noreferrer noopener">allocate a portion of their retirement savings to bitcoin</a> through the company’s 401(k) plan investment lineup. Fidelity Investments is also <a href="https://cms.blockworks.co/fidelity-mulls-bitcoin-trading-on-all-brokerage-accounts/" target="_blank" rel="noreferrer noopener">reportedly mulling</a> how to allow retail customers to trade bitcoin on its brokerage platform, according to the Wall Street Journal.



<a href="https://cms.blockworks.co/first-charles-schwab-crypto-etf-set-to-launch-next-week/" target="_blank" rel="noreferrer noopener">Charles Schwab launched its first crypto-related ETF</a> last month. The fund’s top holdings include Marathon Digital, Riot Blockchain, MicroStrategy and Coinbase.&nbsp;



Other traditional finance players have also jumped deeper into the space in recent months, despite the so-called crypto winter.&nbsp;



BlackRock, the world’s largest asset manager with roughly $8.5 trillion, <a href="https://cms.blockworks.co/industry-watchers-execs-weigh-significance-of-blackrock-coinbase-deal/" target="_blank" rel="noreferrer noopener">partnered with Coinbase</a> last month and days later <a href="https://cms.blockworks.co/blackrock-launches-spot-bitcoin-private-trust/" target="_blank" rel="noreferrer noopener">launched a bitcoin private trust</a>. More recently, <a href="https://cms.blockworks.co/franklin-templeton-preps-first-institutional-crypto-accounts/" target="_blank" rel="noreferrer noopener">Franklin Templeton revealed its intention last week</a> to offer its first crypto-focused separately managed accounts (SMAs) to investment professionals.



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Finance Giants Join Forces To Launch Crypto Exchange

<div id="highlights-block_62bf2533b47ae" class="highlights">
 <ul>
 <li>Metamask operations lead set to join the BitDAO ecosystem</li>
 <li>Abra and Bitpanda cut jobs while Kraken still on the hunt for talent</li>
 </ul>
 
</div>



The global head of business development for <a href="https://www.bloomberg.com/quote/9869818Z:US" target="_blank" rel="noreferrer noopener">Citadel Securities</a> is set to lead the company’s joint venture focused on increasing investor access to crypto, Bloomberg News <a href="https://www.bloomberg.com/news/articles/2022-06-28/citadel-securities-nazarali-leaves-to-run-firm-s-crypto-venture" target="_blank" rel="noreferrer noopener">reported</a>.



Citadel Securities and Virtu Financial were in the process of building a cryptocurrency trading platform, a source familiar with the matter <a href="https://cms.blockworks.co/citadel-securities-virtu-financial-building-crypto-trading-platform/" target="_blank" rel="noreferrer noopener">told Blockworks last month</a>. Jamil Nazarali is reportedly expected to become CEO of the platform.



Citadel Securities did not immediately return a request for comment.&nbsp;



Web3 gaming company Immutable hired a former global head of product design for payments at Facebook to lead the protocol’s product design.



Henry Cho will help the company build an API-only user experience that enables mainstream developers to build simply.&nbsp;



“Immutable will continue hiring the best talent across the globe to continue building our vision of enabling the next billion players to truly own their in-game items,” Immutable co-founder Robbie Ferguson said in a Twitter post.



Andrei Serjantov joined crypto startup Nym as its chief financial officer. He is set to develop the company’s multi-purpose mixnet that helps enable privacy for any application, as well as the underlying finances of its NYM token.



Serjantov joins Nym from French banking group BNP Paribas, where he worked for 16 years. He was most recently the company’s head of electronic credit trading and head of flow credit quantitative research.



“As the bear market rages on, all eyes are on crypto to prove its worth,” Serjantov said in a statement. “Skeptics assume people join crypto to make a quick buck and scam the typical user, but those working through the bear market have something more to prove.”



The former operations lead for self custodial wallet MetaMask is set to join the BitDAO ecosystem to accelerate the adoption of Web3 gaming.



Jacob Cantele is now head of product strategy for BitDAO’s <a href="https://www.globenewswire.com/Tracker?data=RahCDqBPLaBstxmOiHGQa1CDZiEMesp8Rq0nyXTHCEpKTcTSFrZNgyb-TjJRHcgYqG_b2Y9OQw4S5FdLSsh8dg==" target="_blank" rel="noreferrer noopener">Windranger Labs</a> and head of product for the <a href="https://www.globenewswire.com/Tracker?data=8VFB9yNCFXlRwlXlNa_pyfLRfykSOvleobU6PPWrNw6gy8oJY0kZWyRKlngn5dRx" target="_blank" rel="noreferrer noopener">Game7</a> DAO. 



Before working at MetaMask, Cantele led product for the Panvala grant funding DAO (decentralized autonomous organization), one of the earliest grant DAOs in the Web3 ecosystem.&nbsp;



NFT marketplace Magic Eden hired Joseph Doll to the role of general counsel.



Doll previously served as a corporate associate for Fenwick &amp; West, where he structured, negotiated and executed equity and token funding.



Web3 Ventures appointed Zach Rosen to its advisory board as the company gains Rosen’s expertise in software engineering and investment banking.&nbsp;



Rosen is a co-founder of Brydge, a startup that enables decentralized applications to deploy on one chain and accept payments from others. He said in a statement that he would leverage his network and background within the Web3 space to help identify and evaluate crypto projects for Web3 Ventures’ platform.



Crypto trading and lending platform Abra reportedly laid off about a dozen employees this week as market turbulence continues. Abra CEO Bill Barhydt <a href="https://www.theblock.co/post/155209/abra-becomes-latest-crypto-firm-to-cut-jobs" target="_blank" rel="noreferrer noopener">told The Block</a> that the job cuts — representing about 5% of the company’s workforce — were done “purely as a cost-saving measure.”



An Abra spokesperson did not immediately return a request for comment. &nbsp; &nbsp;



In case you missed it, crypto exchange Bitpanda <a href="https://cms.blockworks.co/bitpanda-to-slash-nearly-30-of-workforce-citing-recession-threat/" target="_blank" rel="noreferrer noopener">is letting go about a third of its workforce</a>. The company, backed by billionaire Peter Thiel, wrote in a <a href="https://blog.bitpanda.com/en/way-forward" target="_blank" rel="noreferrer noopener">letter to employees</a> that it wants to cut down its headcount from more than 1,000 to 730 as it seeks to improve its financial health.



Meanwhile, crypto exchange Kraken posted more than 600 new job ads in the United States in the last seven days, according to a June 29 study by <a href="https://cryptojobslist.com/" target="_blank" rel="noreferrer noopener">Crypto Jobs List</a>. The Kraken listings account for nearly 20% of the new American crypto job ads over the span.



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Latest in Crypto Hiring: Former Facebook, BNP Paribas Pros Join Space

Shalini Nagarajan

<div id="highlights-block_62a066dfd893b" class="highlights">
 <ul>
 <li>The trading firms intend to create “more efficient access to deep pools of liquidity for digital assets”</li>
 <li>New platform to launch either later this year or in early 2023</li>
 </ul>
 
</div>



Market-makers Citadel Securities and Virtu Financial are in the process of building a cryptocurrency trading platform, a source familiar with the matter told Blockworks.



Both firms, along with other industry leaders, “are working closely together to create a crypto marketplace that is efficient, transparent and secure, with agreed upon standards and best practices,” the source said.



“This new trading ecosystem will create more efficient access to deep pools of liquidity for digital assets,” they added.



Citadel Securities, the sister business of hedge fund giant Citadel, is owned by billionaire Ken Griffin. He was earlier known for having an <a href="https://cms.blockworks.co/the-constitutiondao-raises-49m-to-buy-a-copy-of-the-us-constitution/">anti-crypto stance</a>, trashing the assets and the efforts of their cheerleaders as a “jihadist call.” But he admitted to changing his mind earlier this year, saying Citadel Securities could soon be <a href="https://www.youtube.com/watch?v=kIFQd7MyNKE" target="_blank" rel="noreferrer noopener">involved in digital assets</a>. And in January, crypto-savvy venture capital firms Sequoia and Paradigm <a href="https://cms.blockworks.co/sequoia-and-paradigm-invest-1-15b-in-citadel-securities/">invested $1.15 billion</a> in Citadel Securities.



This push into digital assets demonstrates the growing involvement of traditional financial firms in blockchain technology, especially as Web3 disruptions take center stage in the market.



Retail brokerages Fidelity Investments and Charles Schwab are helping the trading firms expand access to digital assets by developing a crypto offering, <a href="https://www.bloomberg.com/news/articles/2022-06-07/citadel-securities-virtu-form-crypto-plan-with-fidelity-schwab" target="_blank" rel="noreferrer noopener">Bloomberg</a> reported, citing people familiar with the matter.



Also involved in setting up the marketplace are tech-focused venture capital firms Sequoia Capital and Paradigm, <a href="https://www.coindesk.com/business/2022/06/07/citadel-is-building-a-crypto-trading-marketplace-with-virtu-financial-sources/" target="_blank" rel="noreferrer noopener">CoinDesk</a> reported, citing a source familiar with the plans. Other market makers, wealth managers and industry leaders are expected to join the marketplace before its launch.



The trading consortium is addressing the deficiency in the current crypto market structure that’s holding back wider adoption, CoinDesk said.&nbsp;



Currently in early-stage development, the trading platform is expected to launch in late 2022 or early next year, according to Bloomberg.



Representatives of Citadel Securities declined to comment. Virtu didn’t immediately respond to a request for comment from Blockworks.



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Citadel Securities, Virtu Financial Building Crypto Trading Platform

Casey Wagner

<div id="highlights-block_61e05ed5da9d7" class="highlights">
 <ul>
 <li>GSR recruits another ex-TradFi exec to its growing team</li>
 <li>The market maker said that institutional adoption is only growing</li>
 </ul>
 
</div>



John Macdonald, former managing director and chief technology officer at Citadel Securities in Europe, has joined cryptocurrency market maker GSR as its new chief technology officer.&nbsp;



“After 20 years developing new trading systems and technology in traditional finance, I look forward to working with my new colleagues in combining the best of traditional trading and investment solutions with the very creative and rapidly evolving digital assets space,” Macdonald said.&nbsp;



Prior to joining Citadel, Macdonald served as managing director at JP Morgan, where he ran the global electronic market making technology group. His role at GSR will include increasing global presence and improving trading systems.&nbsp;



“As the space gets bigger and more complex, we needed someone with significant talent plus management experience who has a deep understanding of the big picture,” said GSR president and co-founder Rich Rosenblum. “John is used to hiring and managing hundreds of top engineers through volatile periods in dynamic markets.”



GSR invested more than $60 million through its venture arm in 2021, with about two-thirds of funds allocated to decentralized finance projects. The market maker is also looking to expand into asset management, with plans to offer funds in the future.&nbsp;&nbsp;



The announcement follows a series of hires as GSR looks to expand its institutional investor offerings. In July, GSR brought on Michael Bressler — also a JP Morgan veteran — as its head of sales.&nbsp;



Rosenblum, formerly of Goldman Sachs, said that the teams’ growth will continue through this year, and the flow of talent is no coincidence. 



<blockquote class="wp-block-quote">“It is notable that this flight of talent from [traditional finance] includes not only some of the top talent, but is happening at a time when revenues are at all-time highs in TradFi,” Rosenblum said. “Things are looking great in TradFi in 2022, but the forward presumably looks even better in crypto.” </blockquote>



The cryptocurrency industry will only continue to expand in the coming years, Rosenblum said. He expects a major influx of capital, trading infrastructure and regulatory oversight, and traditional financial players will have no choice but to adapt.&nbsp;



“By 2023, we are likely to see recruiting from crypto back into TradFi as the space expands past the $5T mark and is too big for investment banks to continue keeping their distance,” he said.



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Ex-Citadel CTO Leaves For Position at Market Maker GSR

<div id="highlights-block_61ddb04071b0c" class="highlights">
 <ul>
 <li>Venture capital firm Sequoia led the round through investments from its Heritage, Global Equities and Global Growth funds</li>
 <li>Crypto-focused investment firm Paradigm will help Citadel expand to more markets and asset classes, including crypto, according to Paradigm co-founder Matt Huang</li>
 </ul>
 
</div>



Venture capital firm <a href="https://www.sequoiacap.com" target="_blank" rel="noreferrer noopener">Sequoia Capital</a> and crypto-focused investment firm <a href="https://www.paradigm.xyz" target="_blank" rel="noreferrer noopener">Paradigm</a> have invested $1.15 billion in market maker <a href="https://www.citadelsecurities.com" target="_blank" rel="noreferrer noopener">Citadel Securities</a> as it looks to ​​further scale its business and expand into new markets.



Based in Chicago, Citadel offers equity and fixed income products to 1,600 clients globally, including central banks, financial institutions, government agencies, corporations, insurers and sovereign wealth funds.



&#8220;As technological innovation in financial markets becomes only more important, we see enormous opportunities to meet the needs of our clients across more markets and more products,” Citadel Securities CEO Peng Zhao said in a statement.



Citadel Securities Chairman Ken Griffin told the Economic Club of Chicago in October that his company does not trade cryptocurrencies because of regulatory uncertainties around them, <a href="https://www.reuters.com/business/citadel-securities-avoids-crypto-due-regulatory-uncertainty-founder-2021-10-04/" target="_blank" rel="noreferrer noopener">Reuters reported</a>.



A Citadel spokesperson did not immediately return Blockworks’ request for comment about how the company could look to get involved in crypto.&nbsp;



Sequoia led the funding round through investments from Sequoia Heritage, Sequoia Capital Global Equities and its Global Growth Fund.



&#8220;Citadel Securities has carved out a unique place in the financial markets through its ability to absorb and price risk using techniques and capabilities from far outside the traditional world of Wall Street,&#8221; Sequoia Partner Alfred Lin said in a statement.&nbsp;



A Sequoia representative did not immediately return Blockworks’ request for comment.&nbsp;



Sequoia has <a href="https://cms.blockworks.co/sequoia-capital-may-be-embracing-crypto/" target="_blank" rel="noreferrer noopener">recently signaled its interest</a> in the crypto space. It changed its Twitter bio last month to say: “Mainnet faucet. We help the daring buidl legendary DAOs from idea to token airdrops. LFG.”  It also recently <a href="https://opensea.io/assets/0x97e5762a9670bb5aa5b47e132a045d6df1c309fe/0" target="_blank" rel="noreferrer noopener">auctioned off</a> its 2005 YouTube memo as a non-fungible token (NFT) on OpenSea for $884,776 worth of ether.



Meanwhile, Paradigm is an investment firm focused on investing in crypto and Web3 companies and protocols. It often invests at early stages and offers additional capital to its portfolio companies over time, according to the firm.



Paradigm <a href="https://cms.blockworks.co/paradigm-launches-2-5-billion-crypto-fund/" target="_blank" rel="noreferrer noopener">announced the launch</a> of a $2.5 billion venture fund in November. The new fund was to operate alongside Paradigm’s existing flagship fund and will “continue investing in the next generation of crypto companies and protocols,” Paradigm co-founders Matt Huang and Fred Ehrsam said at the time.



&#8220;We look forward to partnering with the Citadel Securities team as they extend their technology and expertise to even more markets and asset classes, including crypto,&#8221; Huang said in a statement.&nbsp;



A Paradigm spokesperson declined to comment on the investment in Citadel.



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<hr class="wp-block-separator"/>

Sequoia and Paradigm Invest $1.15B in Citadel Securities

Sam Reynolds

<div id="highlights-block_612fd847903e7" class="highlights">
 <ul>
 <li>Payment for order flow is a controversial practice that has caught the attention on the SEC, and banning it is “on the table”</li>
 <li>Experts and analysts are mixed on whether the SEC will actually ban it, as Gensler and the Commission have a variety of priorities</li>
 </ul>
 
</div>



Robinhood’s payment for order flow is on the rocks, with SEC chair Gary Gensler <a href="https://www.barrons.com/articles/sec-chairman-says-banning-payment-for-order-is-on-the-table-51630350595?mod=hp_LEAD_2" target="_blank" rel="noreferrer noopener">signaling</a> that banning the practice is a possibility. 



Payment for order flow is a lucrative business for Robinhood. <a href="https://cdn.robinhood.com/assets/robinhood/legal/RHF%20SEC%20Rule%20606%20and%20607%20Disclosure%20Q2%202021.pdf" target="_blank" rel="noreferrer noopener">According to disclosures</a> the company published for its second quarter, through its payment for order flow business Robinhood generated $331 million, $142 million came from Citadel Securities. The rest was split between smaller shops. 



Comments on payment for order flow were <a href="https://cms.blockworks.co/secs-gensler-crypto-needs-regulation-to-survive/" target="_blank" rel="noreferrer noopener">on the agenda Wednesday</a>, when Gensler addressed European regulators. But the discussion veered toward the need to regulate crypto exchanges and setting standards for environmental social governance (ESG).



Robinhood isn’t the first company to use payment for order flow as a means to generate revenue and offer free or reduced cost trading. Analysts are mixed on whether the SEC will take action against the practice, despite Gensler claiming it&#8217;s “on the table”.



In a recent <a href="https://www.barrons.com/articles/robinhood-analysts-are-all-over-the-map-51629738945" target="_blank" rel="noreferrer noopener">note</a>, JPMorgan analyst Kenneth Worthington said the SEC is “highly engaged” and that it “has fined and has continued to call out Robinhood specifically for activities and actions that it is investigating.”



He wrote, “While Robinhood founders have built a company that brings investing to those that have been underserved, we don’t see a technological competitive advantage, and we see a brand and product offering that risks investors graduating to other more comprehensive financial institutions over time.”



<h3 class="wp-block-heading">Payment for order flow or kickbacks?</h3>



USC finance professor Lawrence Harris, who holds the Fred V. Keenan Chair in Finance at the USC Marshall School of Business, has even stronger words about payment for order flow.



<div class="wp-block-image"><figure class="aligncenter size-full"><img decoding="async" loading="lazy" width="350" height="353" src="https://blockworks-co.imgix.net/wp-content/uploads/2021/09/lawrence-harris-1.jpeg" alt="https://www.google.com/search?q=HOOD&amp;rlz=1C5CHFA_enUS943US943&amp;oq=HOOD+&amp;aqs=chrome..69i57j69i59j0i131i433i512j46i433i512j46i131i175i199i433j69i61l2j69i60.1185j0j4&amp;sourceid=chrome&amp;ie=UTF-8" class="wp-image-7497" srcset="https://blockworks-co.imgix.net/wp-content/uploads/2021/09/lawrence-harris-1.jpeg?w=350 350w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/lawrence-harris-1.jpeg?w=297 297w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/lawrence-harris-1.jpeg?w=150 150w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/lawrence-harris-1.jpeg?w=255 255w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/lawrence-harris-1.jpeg?w=259 259w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/lawrence-harris-1.jpeg?w=217 217w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/lawrence-harris-1.jpeg?w=80 80w" sizes="(max-width: 350px) 100vw, 350px" /><figcaption>USC Finance Professor Lawrence Harris</figcaption></figure></div>



“It’s a kickback that represents a huge agency problem,” he said during an interview with Blockworks. “In any other context payment for order flow is a kickback except in the context of the securities market.”



Harris gives an analogy illustrating how this would be illicit elsewhere. If in another life he were a purchasing officer for USC, and USC directed him to procure tens of thousands of new chairs for its classrooms he’d be guilty of a felony if he told them ‘Hey listen vendors, USC needs a lot of chairs and I’d be delighted to direct the order to you. But if you want to do business you need to pay me first’ he’d be guilty of a felony.&nbsp;



So why isn’t this illegal in the securities context?&nbsp;



“Because the SEC is the ultimate regulator, and they said it’s OK,” Harris said. “Now the claim is the brokers compete with each other and the payments for order flow get returned to the customer through competition.”



One aspect of the competitive market that benefits both Robinhood and the traders is price improvement. Given Robinhood’s scale and lucrative order flow business, it can get securities through its brokerage patterns at less than market price. Of course, the trader pays retail price but the revenue from the price difference can go to Robinhood and make up for a lack of revenue from commissions.&nbsp;&nbsp;&nbsp;



But this gives Citadel Securities, and others, the opportunity to front run Robinhood’s customers — the grand dilemma of the free-to-trade platforms.



“That front running is legal, Robinhood shouldn’t be permitting it because it&#8217;s hurting their clients. It’s unethical,” Harris said.



<h3 class="wp-block-heading">Gensler’s big decision&nbsp;</h3>



So what happens if Gelser doubles down and bans payment for order flow? Potentially something worse. If Gensler moves for a ban, Harris believes that Citadel Securities would out-and-out buy Robinhood and fill the customer orders itself. This process is called internalization.&nbsp;



“There’s no question what the agency problem would be in both cases,” Harris said, arguing that it would be problematic to have Citadel Securities as the sole executor of trades.&nbsp;



But before Gensler makes a move on payment for order flow he would need to do something about internalization.&nbsp;



“The simple thing to do would be to say that nobody can internalize it, and nobody can be a dual trader,” Harris said.&nbsp;



But Harris believes that Gensler is too preoccupied with an ESG mandate given to him by the Biden White House to make a move on this now.



<h3 class="wp-block-heading">The core of Robinhood’s business</h3>



When Gensler made his comments about a payment for order flow ban being on the table, Robinhood’s stock slid. Likewise, when payment for order flow wasn’t a topic of discussion at Gensler’s recent appearance the stock went up.&nbsp;



“Many people in the industry like Robinhood are lobbying that it should be preserved,” Harris said. “The problem is the people that will get hurt are hedge funds, and they are going to lobby.”



Harris pointed out that if customers had to pay the true cost of trading via commissions they would trade less often, which isn&#8217;t necessarily a bad thing, as the gamification of trading had led to a number of market problems.



“The SEC should be promoting competition and not promoting what some call a ‘free market’. In a free market you have lots of issues,” Harris said.&nbsp;&nbsp;



“You get agency problems.” Problems like providing customers the means to trade for free, but setting up a means to trade against them.&nbsp;



Robinhood’s stock is <a href="https://www.google.com/search?q=HOOD&amp;rlz=1C5CHFA_enUS943US943&amp;oq=HOOD+&amp;aqs=chrome..69i57j69i59j0i131i433i512j46i433i512j46i131i175i199i433j69i61l2j69i60.1185j0j4&amp;sourceid=chrome&amp;ie=UTF-8" target="_blank" rel="noreferrer noopener">currently</a> at $44.53 on the NASDAQ, up .47% on-day.



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