Nov 2019 update This article wad originally posted in May 2017, but since so much has changed in the Robo Advisor landscape since then, i figured it was time to update it. This also gave us a chance to re-visit our thoughts from two years ago and see how accurate my initial assumptions were.
I’m glad to say my recommendations proved true, as more and more people are using Robo Advisors each day, and this product is continuously being improved to service more potential users with different expectations and requirements. The biggest difference nowadays is that Robos are better suited for larger investors and not just small, risk averse beginners. Custom and advanced features allow you to customize and fully control the structure and risk factor of each component in your portfolio, while a better notification and advisory system enables users to always keep their hand on the trigger and avoid any unpleasant surprise.
Robo Advisors Quick Facts and Introduction
Algorithms. That was once a word avoided in your high school math class yet now it is coveted and treasured. Whether it be high frequency trading or some other groups using them to their advantage, algorithms are ruling the stock market game on every level.
Al·go·rithm (per google)
a process or set of rules to be followed in calculations or other problem-solving operations, especially by a computer.
I first heard about them a few years back on a news special. Investment firms armed with a special algorithm were almost exclusively ending each of their days on the upside. It was only a matter of time before this became mainstream.
With this came the birth of the Robo-advisers!
- What is a Robo-advisor?
A Robo-advisor is a typically low cost algorithm based investment model.
- Who can use it?
Robo-advisors are available to the general public at many different platforms across the world.
The purpose of these models are essentially to eliminate the middleman. Here’s some background to this story. Investing wasn’t mainstream in the old days.
Pre-1990’s, casual investors were paying high fees per trade. This was really cutting into the profits, which forced stock brokers to evolve into financial advisors.
At the same time, lower priced trading accounts like Scottrade and ETrade took their footing. Though, these type of accounts were and still are as low as $7 per trade, an active trader’s pockets can still get hurt.As I mentioned before, a robo-advisor will invest for you. Typically, with no per trade cost. The one I was a part of had no per trade transaction fee but it charged 2% a year on the total balance of the account. Most investors would take that trade off any day!
Why spend all that time and energy on research if a computer program can do it for you? That’s the real purpose of this type of option.
Pros and Cons of Robo Advisors
The biggest advantage to Robo trading is the low cost involved, which in turn allows you to maximize the ROI of your investments much more easily. Some platforms only require 1$ as the minimum balance, as opposed to the standard 1K required for a regular trading account at a popular provider such as Questrade in Canada for example. Combined with significantly lower fees, it means Robo Advisors are still the best solution for traders with a relatively small and basic portfolio.
As mentioned above, another huge advantage is gained by allowing the user to make informed decisions without having to first consult an expert. It lets you have much more flexibility and control over your portfolio as you can make quick decisions on your own. The biggest advantage is you get detailed information and can judge it for yourself, instead of trying to milk it out of your investment broker. Robo advisors don’t have hidden agendas, they give you the info and make their recommendations based only upon the settings which you have defined.
The biggest downside to Robo Advisors compared to “old school” trading was the lack of personalization and face to face interaction. While this is still something that needs to be addressed, it is not an issue as it once was. Many brands, such as Betterment for example, already offer an hybrid package which combines algo-based recommendations and portfolio management with other investing tools, most importantly the ability to immediately consult a human expert.
Popular Robo-advisors USA
Wealthfront’s low fee’s are very attractive. They manage $10,000 for free, as well as an extra $5,000 if you invite a friend. Anything above that will be managed at a .25% advisory fee. That is quite the deal! Most financial advisors are charging somewhere around 1% of total assets. For those with significant assets, this can make a huge difference.
Theoretically, we are talking about a $775 difference per year on $100,000 of managed funds. If reinvested that $775 each year for 30 years, at a 7% return, you’ll be somewhere around $840,000. That would be an $80,000 difference over that time. Decimal points matter!
If you’re looking for something free of charge, WiseBanyan is the fund for you. WiseBanyan prides itself on being able to put their customer needs first due to their fee structure. According to their website, their only source of making money is through a la carte products, which is completely optional.
Their investment strategy will be based on questions you answer upon sign up. The result of this questionnaire will produce a tailored portfolio. These questions will center around money saved, risk aversion, and time horizon.
I’d say this would be a great starter fund for someone looking to get into robo-advisers. With no risk in paying fees for something you don’t like, why not?
Know matter how diverse I’ve made my research for this article, Betterment keeps popping up as one of the best most popular robo-advisor’s out there. Their website promises bigger returns in a tax efficient manner. How much bigger? 4.30%! That’s nothing to scoff at.
In addition to their core business, their website has a financial education section. This includes “investing 101” and “personal finance” pages that can help you understand what it’s all about in the first place. I do believe financial education is important, as the average investor doesn’t understand investing on a mere basic level.
Their tiered fee structure is based on the amount of dollars you have in your account. The fee for under $10,000 and under is .35%. Between $10,000 and $100,000 is .25%. Anything over that will be .15%. I’d say those are quite reasonable as compared to thier competitors.
When you consider a robo-advisor you should consider both Wealthsimple which is by far the biggest and most well known robo in Canada. The terms are quite similar to its American counterparts but it is said the service is far more personal. It is rumored this company will branch out to the USA eventually. There is also a tool which enables you to find the best robo advisor based on your requirements automatically.
I do recommend Robo-advisors as a viable option for investing. That being said, I believe it has it’s place in a portfolio. It should not be your whole portfolio!
As with anything else, the overused cliche rings true: all your eggs should NOT be in one basket.