Should I Let the Robot Advisor Manage My Investment or Do It Myself?

Posted on May 1, 2015 by resourcefulman

Dear Lifehacker, I’ve heard about automated investment services like improvement and Wealthfront . They seem great and are the easiest way to invest. But are so-called robotic advisors better than the do-it-yourself approach?

Signature, Manage My Money

Dear Manager, Robo Advisors are certainly becoming more popular as a way to get investment advice and automatically manage your portfolio cheaply. In addition to Improvement and Wealthfront , there are at least a dozen other similar firms competing for business investment. Let’s take a look at their services to see if one is right for you.

What the Robo Advisors offer

Robo consultants see themselves as a smarter and easier way to invest. For a relatively small maintenance fee (typically 0.15% to 0.25% of the amount you invest), these companies tailor the investment portfolio for you using their own algorithms. They also regularly balance your portfolio for you. All you really need to do is answer a few questions, fund your account or connect a brokerage firm, and the investment will be taken care of for you. This is a set and forget definition.

How much do robotic advisors cost?

The biggest difference between individual robot consultants is their fees, minimum requirements, and where your assets are held. Here is a comparison of some of the most popular robotic advisors:

So, as far as the cost of a cup of coffee or a night out at the cinema (depending on how much you put in) each month, you can fully take care of your investment – using technology that tries to optimize your investment based on your goal.

While robo-consultants are a little more expensive than buying cheap funds yourself, there are still ways you can get ahead, even with paying for services. Some of their functions, such as collecting tax losses (see the Pros section below), can increase productivity and more than offset fees. Here’s an example from Wealthfront based on a $ 100K portfolio:

It is worth noting that the robo-consultant fees do not include the annual fees of all funds, which are deducted annually from the fund dividends . (Whether you invest with a robotic advisor or do it yourself, there will still be a fee for these funds.) Typically, however, robotic advisors choose ETFs and index funds with very low expense ratios, typically from Vanguard and iShares. And, as we discussed earlier, lower fees mean better performance when compared to actively managed funds with higher fees. (The average ETF ratio is 0.44% , compared to 0.74% for index funds and 1.5% for actively managed funds . However, many robot advisors choose ETFs with much lower spending ratios, from 0.07% to 0 ,15%.)

However, you need to beware of those advisors that can initiate trading commissions, because this will increase your expenses and reduce the efficiency of your investments. FutureAdvisor claims that they take into account the commission for the transaction and choose a commission per trade only if the benefit outweighs the cost of performance.

Pros of robotic advisors

The biggest advantage is, of course, that these companies do all the investment work for you. But there are other benefits too:

Professional Investment Advice at a Much Lower Cost: Traditionally, to get this kind of investment advice and guidance from a financial planner, you would have to pay a lot more than these online tools require. Not only that, many financial planners require a significant minimum investment (for example, at least $ 500,000 to invest). With a robot advisor, you get the same investment planning for a small fee, albeit not at the same level of interaction.

More diversification than you could create yourself: Robo-advisors are going beyond the lazy portfolio approach that is usually recommended to novice investors and investing in additional sectors and types of investments. For example, Betterment has recommended 12 ETFs to me for my portfolio and it would be difficult for me to manage this on my own. Wealthfront and FutureAdvisor recommend REITs (Real Estate Investment Trusts) to diversify your portfolio, thereby reducing risk and possibly increasing returns. They and other robo advisers can also split your portfolio to weight a specific sector higher than others depending on your goals – for example, invest more in small-cap growth funds rather than just the general US stock market if your target date – Over time, you will have a higher level of risk tolerance.

Tax efficient investment: Some of these companies also offer so-called tax collection . Basically, it is a method that strategically sells investments that have suffered a loss and replaces them with similar ones in order to save money on taxes. This benefit can matter to you if you have a taxable investment account and Wealthfront estimates that your tax returns can be 1.55% higher each year through collection of tax losses. However, you may be required to have a high minimum account balance to receive this service.

Protection from emotional investing mistakes: The portfolios of many DIY investors don’t perform well, at least when compared to a decent set date fund. We invest emotionally – we hold too much cash, we buy too many individual stocks, and we do n’t diversify enough , perhaps because we don’t know what we are doing. Robo Advisors take emotion out of the equation and will never sell or buy a fund out of panic when stock prices rise or fall.

Cons of robo-advisers

These services also have limitations and disadvantages.

They may not account for your external accounts: Betterment and Wealthfront will optimize your portfolio based on the money you put into them, but they don’t take into account any investments you held elsewhere. For example, my husband’s retirement account is in the Government Employee Savings Program (TSP). Due to the fact that the employer is the same, this is the best place for us to invest first, but many robo consultants do not include assets that do not belong to them in their plans. This can distort and imbalance your entire portfolio. (However, FutureAdvisor works with your 401 (k) assets.)

You cannot select or edit specific investment proposals: most of the services of robo-consultants are indeed automated – you cannot select another fund or change the amount invested in a particular fund. However, you can usually tweak allocation or adjust your goals and financial profile to reallocate your portfolio according to how risky or conservative you want to be with your investments.

They offer no financial advice other than investing : while robotic advisors cost a lot less than human financial advisors, they only help you with your investments. If you need tax planning, budgeting, and other financial planning, you need to look elsewhere. Sometimes you also need “human touch” – the ability to ask questions of the person managing your money or discuss your goals. Most do not offer this advice, and those that do offer, such as Personal Capital, charge additional fees for the service.

The work of robo-advisers

Robo advisors have only been around for the past five years or so, so we don’t have a ton of data on how well they work. Hedgeable analyzed (probably biased) 2014 returns to compare the results of robo consultants and the average investor. The portfolios of the average investor and robo-consultants returned 4.2%, while Hedgeable returned 7.4%. By comparison, the Vanguard 2050 Fund with the due date returned7.2%last year . The robot consultant websites will show you comparing their portfolios to industry benchmarks, as in the improvement chart above.

However, whenever we talk about investment performance, we must remember that “past performance is not a guarantee of future performance”. This is why investment experts recommend choosing investments that diversify your portfolio and charge the lowest fees – two things that robotic advisors aim to do for you.

Robo-advisors versus self-managing investments

Finally, we come to the heart of your question. The pros and cons above can help you make a decision, but they are all slightly different. Here are some suggestions depending on what kind of investor you are:

If you have an employer match: stick to your current retirement account, or at least keep investing up to the amount needed to get it (100% return). If your employer’s plan sucks, you may want to consider using one of these robo services or using an IRA for your investment money in excess of the matching amount.

If you don’t want to choose investments or rebalance your account every year: Robo Advisors can be a worthy set and forget choice because rebalancing is painful and the choice of funds can be confusing. Both are time-consuming. However, an alternative to robo-advisers is a fixed-date fund. The target date, also known as lifecycle tools, is automatically updated every year based on the year in which you think you will need the money. Like robotic advisors, dated funds protect us from our own investment mistakes and use a wide and varied selection of investments.

My advice (bearing in mind that I am not a financial advisor, but just someone who understands the matter): if your main goal is to have your portfolio automatically rebalanced, find a trust fund you like and compare his ratio of expenses to the fees of robo-consultants. The average target date fund commission is 0.84% , which is quite high compared to the robo advisor commission of 0.15-0.25% (plus ETF settlement fees of 0.07-0.15%). However, there are funds with low fixed-term costs such as Vanguard (spending ratio is around 0.15%), so they are cheaper than using a robotic advisor.

Another side note: Unlike fixed-date funds, robo consultants usually consider other things besides your retirement age, such as risk tolerance and goals. This way you get a more personalized investment choice from a robo advisor than a target date fund.

If you invest in Vanguard: Vanguard recently launched a personal advisor service feature that rivals the robo advisor feature. It not only selects funds for you and balances them automatically, but it also puts you in touch with a financial planner so that you can also get advice from the person. The cost of the service is 0.3% per annum and is currently limited to Vanguard accounts totaling over $ 100K, but the company plans to reduce this requirement to $ 50K. (Fidelity also recently teamed up with Betterment to provide its advisors with the Betterment investment platform, but that does not make Betterment available to Fidelity’s personal clients. Charles Schwab also has a free “smart portfolio” tool to set up and balance your portfolio along with collecting tax losses , but he recommends Charles Schwab to actively manage funds with higher fees, so this is a little suspicious, or at least more expensive.)

If you’re willing to work hard to get better returns or more control: The thing about robo-advisers and trust funds is that they can’t take your entire financial picture into account – things like outside investment and your other financial concerns. This could make the mix of human and automated investing, such as the offerings of Vanguard and Personal Capital, more attractive.

I tried several services – Betterment, Wealthfront, and FutureAdvisor – and found I disagree with some of the portfolio allocations. Realizing that I am more of a practical investor – although I still want to reduce the time and effort of managing my portfolio myself – I went back to the simplest do-it-yourself approach to investing (other than date- bound funds): the lazy portfolio approach . Pick several index funds and rebalance annually. It’s not as easy as using a robotic advisor, but it allows me to really fine tune my investment.

If you don’t have a lot of money to invest or transfer: Robo Consultants’ $ 0 / low minimum balance requirements are great for novice investors. Betterment simply requires you to automatically deposit at least $ 100 per month, and SigFig and Wealthfront are free if you have less than $ 10,000 to invest. If you’re just starting out, these services are a convenient way to quickly and inexpensively build a diversified portfolio – without having to do any investment research. And you can learn along the way.

Finally, some of these services offer handy tools that you can use for free. FutureAdvisors will recommend a portfolio for free , tell you which funds to buy or sell, and even send you an email when it’s time to rebalance your account. WiseBanyan , currently on a waiting list, will manage your portfolio for free like robo consultants (they make money selling value-added services).

If you’d like to continue comparing robotic advisors, here are some additional readings: