Last updated on September 12th, 2022 at 04:43 am
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While stock trading can be extremely rewarding, there’s always a risk of losing money involved. The same goes for buying and selling stocks on Robinhood.
Robinhood is just like any other brokerage in that there’s a possibility you can take a loss when investing in stocks or options. However, your money that is transferred into Robinhood is 100% safe and insured by the SIPC.
So your money is protected, just not protected from investment loss (if a stock, option, or crypto drops in price after you bought it).
No brokerage will protect you from investment loss as that is the idea of investing, you take a risk to hopefully get a better long term return. However all brokerages will protect the money you deposit into your accounts so if the account is hacked or the money disappears somehow you are insured.
In this article, I am going to look at the most common ways investors lose money on Robinhood so you can do your best to avoid them.
As someone who has taken significant losses on Robinhood and other online brokers over the years, I’ve made every mistake you can think of but ultimately investing is far better than not.
I’m going to share a few of them below to try and help you to invest smarter!
Can You Lose Money On Robinhood?
Robinhood has become incredibly popular over the last few years especially with the younger generation who might not know a lot about the stock market or trading in general. Some of those people think Robinhood controls their money and when their account balance drops it is their fault…
But this simply isn’t true.
You can lose money on Robinhood through trading stocks, option’s, and crypto. However you will not lose any money by just transferring money to Robinhood and letting it sit there.
The only way you can lose money (and also possibly gain money) is by trading securities on the app.
There are both conservative methods of investing on Robinhood (purchasing ETFs for example) as well as incredibly risky ways to invest (trading option contracts). If you use Robinhood like a slot machine and gamble with options you are much more likely to lose money than you would be by investing in ETFs (exchange traded funds).
Things Not To Do When Trading On Robinhood
There are a few specific actions and habits you should avoid to prevent taking massive losses when using the platform. Here’s some definite DON’Ts when it comes to Robinhood.
1. Don’t Use Margin
Beginners (and even experienced investors) can get into some serious problems when using margin to invest. Sure it sounds great to be able to increase your returns but if you are wrong you will face a margin call and could even have a negative account value!
If you follow some of the popular trading forums many people will talk about the great returns that they saw when trading on margin and that might actually happen for you too! However, what they are leaving out (and what you NEED to know) is that they are exposing themselves to massive amounts of risk.
Investing with margin means you are borrowing funds from your broker (in this case Robinhood) to invest in a stock. Typically you will have to put up a certain percentage of the stock purchase as collateral and the rest will be put up by Robinhood.
So let’s say for example you buy 1000 shares of stock in ABC at $10 a share for a total investment of $10,000 but you bought it on margin so you only actually put $5,000 of your own money into it and borrowed the other half.
If the stock price increases by 10% then you have made a nice 20% return on the money you invested (minus the loan costs). So you made twice as much as you would have if you didn’t use margin.
This is why so many people use margin… you can increase your gains dramatically if the stock price goes the right direction.
But what if in the example above the stock dropped by that 10%? Now you lost 20% of your original investment!
Now you might think that’s no big deal as you will continue to hold the stock expecting it to go back up eventually, but the entire time you hold stock bought with margin you are paying interest on that borrowed money. Plus if the stock continues to drop you might get a margin call (which means Robinhood will want more money to make their investment secure).
Those are the reasons why I would NEVER recommend investing with margin. You can easily lose more money than you have invested! If you want to gamble on a stock with leverage you are better off doing it with options as at least with them you can only lose what you invested and no more.
2. Don’t Day Trade
Another investment strategy a lot of newbies get into is day trading. This was one of the forst ways that I was exposed to stock investing and it sounded great!
All I had to do was follow this one person’s advice and I would make money. They even had screenshots of all of their winners and losers proving over time that they were right.
However, if you don’t have the experience, knowledge, and dedication to do it properly, day trading is almost a surefire way to lose money and I quickly found this out.
I turned $5,000 into $800. Then I got with a new day trader program and turned that $800 into $2,000… right before I made a mistake that turned that $2,000 into $0.
In 6 months I turned $5,000 into nothing and had missed countless hours of sleep by getting up early, staying up late, and trying to “stay with the plan”.
Believe me, whether you are using Robinhood or another brokerage, day trading isn’t worth the time or the effort unless you have massive amounts of discipline and are willing to invest years into learning and being able to make all the right split second decisions.
Not to mention, Robinhood (as do all brokerages) limits the amount of trades you can make on a regular basis if you have an account balance below $25,000 (on a margin account). This rule is called the Pattern Day Trader Rule.
You can get around this rule by changing your Robinhood account to a cash account (as the PDT rules don’t apply to cash accounts) but then you won’t have your money for 2 days after selling as you will have to wait for the funds to settle after selling before you can buy another stock.
3. Don’t Invest In Penny Or Meme Stocks
One of the most common attributes of a new Robinhood investor is a propensity to chase cheap penny stocks or meme stocks that they have seen on some forums or social media.
Everyone wants to find the next big thing and chasing these small companies (or large companies that are going broke) might seem like a good way to get fast returns, however it rarely is.
Penny stocks or companies near bankruptcy are priced low for a reason, they are incredibly risky. People don’t think they will pull through the hardships they are going through so their share prices are low.
Although that might seem like a good time to buy them, that rarely is the case.
Meme stocks (those stocks that are going to be the next GameStop, AMC, etc.) are often even worse. People all pile into a stock hoping it will rise because of a “squeeze” when in reality they are just dumping money into a dying company.
Avoid investing in penny or meme stocks except for with money you can afford to lose. If you want to drop a few bucks on an option for a meme stock hoping that it will hit there is nothing wrong with that, if you know it’s a gamble that’s unlikely to pay off before you buy it.
4. Don’t Trade Options
It’s unfortunate, but retail investors tend to take significant losses when trading options — and Robinhood users do a LOT of options trading.
For beginner investors, options trading can be difficult and complex as there’s so much you need to get right. Not only are you betting on the stock’s movement, but the timing of it as well.
If I think that ABC stock will have some amazing news come out about it but I’m off on the timing by a week the option I bought will expire worthless!
If you like the thrill of gambling then you will love option investing as it brings that excitement of hoping that you made the right decision and the rush when you get it right. However more often than not you will be wrong on either the timing or which direction the stock will go and you will lose money.
As I mentioned earlier in the day trading section I lost $5,000 trying to day trade and what I was day trading… was options.
Yes, sometimes I was right and the option price would skyrocket getting me a nice profit. But more often I would hold the option hoping it would go up and end up losing all the money I paid to buy that option when it expired.
Options can be a good way to hedge your stock purchases if you are a more experienced investor and they can also be a good way to get additional income (if you sell options rather than buying them).
However, how most people trade options is simply betting on a stock to move a certain amount in a certain amount of time… and as with all gambles… often they won’t pay off.
What Happens If You Lose Money On Robinhood?
Can you lose money on Robinhood? Yes, but what happens if you do?
Just like with any broker (online or otherwise), if you lose money buying or selling stocks on Robinhood then you simply have to take it on the chin and move on.
The best thing to do would be to come up with a new investment strategy to ensure you don’t take as many losses again (or at the very least minimize the amount of losses you do take).
Be smarter about what you choose to invest in, and avoid the pitfalls I outlined above.
What that looked like for me is I stopped day trading and stopped option trading (except a few times a year that I buy king term options knowing I might lose that money). What that has done is allowed me to have far less stress with the day to day market movements and also allows me to get far more sleep!