Robo Advisors

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What is a Robo-Advisor?

A robo-advisor is a computer program designed to help investors manage their own investments.

It is a low-cost, automated platform to manage your assets. Computer programs define a set of investment goals for clients and design an investment strategy based upon an appropriate set of rules. Rather than depending on a human financial advisor, clients get personalized investment advice from the robo-advisor.

Robo-advisors began to emerge in 2008. One of the first companies to introduce the world to robo-advising was Betterment.  Nowadays, most online brokerage firms are offering robo-advising services to their clients. A 2016 study predicted  68% annual growth in such services over the next five years. Robo-advising services are estimated to total over $2 trillion by 2020.

How It Works

  1. Investors create an online account through a brokerage offering robo-advising services.
  2. Then the investor answers a few basic questions about investment goals and risk tolerance.
  3. The computer program then proceeds to create a portfolio of investments that suit the needs of the investor. The robo-advisor has a few different investment strategies and portfolios from which to choose.
  4. After finding the best match for the client, it invests the money in the chosen assets with appropriate diversification and risk levels.
  5. Then the robo-advisor continues to work 24/7 at managing the investment portfolio. Since computers never sleep, neither does the robo-advisor. The computer can make appropriate trades on the account at any time of the day to react to the most recent price changes and global training information.

Pros

  • Financial advisors can be expensive, so robo-advisors make financial advising accessible to investors with portfolios of all sizes. Even investors just getting started with a few hundred dollars can utilize robo-advising services.
  • Robo-advisors are great for investors with a small portfolio who would otherwise struggle to understand how to appropriately manage it.
  • Even large investors with simple, basic investment needs can benefit from using a robo-advisor.
  • Management and transactions fees are so small that investors using these services can earn a higher rate of return on their investment.

Cons

  • While robo-advisors are great at handling investment portfolios with simple goals and basic investment strategies, they may not be right for every investor. Robo-advisors only generate investment decisions based upon a narrow view of an investor’s financial life. They cannot offer advice on whether or not the investment goals provided are appropriate for that individual investor.
  • They do not have a full view of the investor’s financial position, including other investments, debts, and assets.
  • Generally, they don’t allow for the investor to have any input into particular assets, and they don’t allow the investor to simply purchase a stock that may be of interest to them.
  • For some investors, managing their money is not just a matter of math but also a matter of managing emotions through the ups and downs in the market and their lives. Computers are not very good at providing emotional support.

Robo-Advisors vs. Financial Advisors

A January 2017 report from Spectrem Group states that less than a decade after the first introduction of robo-advisors “certain investors now believe these technology-based advisory solutions may actually be better than human advisors at certain tasks.” Not all robo-advisors, however, are the same. Investors should research the specific costs and offerings of each company or advisor before committing.

Top Robo-Advisors

Nerdwallet published a list of the best robo-advisors of 2017. The top ones are chosen according to different categories.

  • Best Overall Advisors: Wealthfront and Betterment
  • Best for Free Management: Wise Banyan and Charles Schwab
  • Best for Access to a Financial Advisor: Vanguard and Charles Schwab
  • Best for Taxable Accounts: Wealthfront and Personal Capital
  • Best for IRA Management: Betterment and Fidelity Go
  • Best for 401(k) Management: Blooom

How to pick the right advisor

Just as no two human financial advisors are the same, neither are two robo-advisors. Here are some things to consider when picking the right one:

  • Is the robo-advisor able to plan for life events, such as marriage, college tuition, and retirement?
  • Does the robo-advisor consider changes to your risk profile over time? For example, high-risk investments may be fine when you are younger, but you should consider switching to low-risk investments as you approach retirement.
  • Is there a plan for how the robo-advisor should handle market downturns?
  • Do you have access to a human financial advisor if you need one?

Fun Facts

  • North America is the largest robo-advising market, but Asia is catching up and expected to outpace North American assets under management by 2022.
  • Business Insider Intelligence forecasts that robo-advisors will have $4.6 trillion under management by 2022.
  • Robo-advisors typically charge .25–.35% of assets under management, while traditional financial advisors charge fees of at least 1% of the total assets under management.

References

https://www.quicken.com/pros-and-cons-using-robo-advisors

https://money.usnews.com/investing/articles/2016-11-10/is-robo-advising-right-for-you

http://www.businessinsider.com/the-evolution-of-robo-advising-report-2017-7

https://medium.com/@LetsTalkPayments/the-debate-finally-seems-to-have-ended-robo-advisors-vs-humans-df3e0b0ae6db

Here is a recent study to include https://www.thestreet.com/story/13980489/1/key-facts-every-investors-know-about-robo-advisors.html

Best Robo-Advisors: 2017 Top Picks

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