A BATTLE IS BREWING in the investing industry, and it all centers around the answer to a key question: which is better, a robo-advisor or a human advisor?
The answer: it depends.
“It depends” is the infuriating but correct way to look at most things on your financial journey. There are so many factors at play, and each person must be evaluated according to his or her individual needs. A robo-advisor could be a perfect fit for you, but I might need a long-term relationship with a human advisor.
To be honest, I was highly skeptical of robo-advisors when they first started to gain traction. I admittedly have a dash of Luddite in me, but something just felt so off about the idea of being able to automate every aspect of a person’s investing life. I had no faith that an algorithm could be taught the nuance necessary to build a person’s portfolio for medium- and long-term financial goals. I feared it would just spit out the same answer for most people. But I was also giving many human advisors far too much credit, since some of them don’t spend quality time with each individual client.
Besides, the anti-robo-investor mentality feels rooted in the archaic idea that investing is really complicated and that only super-smart Wall Street bros can understand what’s going on. Blech.
I have no shame in admitting that I grossly misjudged robo-advisors, and they’ve significantly evolved in the last decade to better provide the nuance needed. In this chapter we’ll figure out if a robo-advisor is a good fit for your investing journey.
Before we get started, here’s the first thing you need to understand: a robo-advisor isn’t just some algorithm making your investing decisions while you live your life. People are involved the entire way. And in some cases, you can even add in a human financial advisor when you have questions or after major life events unfold. It’s not entirely dissimilar to using a discount brokerage firm where you can move from being a DIY investor to working with a professional. The underlying technology and the level of micromanaging on your end (think rebalancing and tax-loss harvesting) will be less with a robo-advisor than DIY-ing at a discount brokerage.
“The easiest way to get started,” jokes Dave Nugent, head of investments for Wealthsimple. “A robo-advisor simplifies the way in which people save and invest for their futures and typically provides clean and easy experiences that help clients understand what they own and why they own it. It also allows anyone to automate a lot of the operational and administrative tasks that cost a lot of money in the traditional world.”
“The term robo-advisor started meaning technology could manage your portfolio,” says Alex Benke, CFP®, vice president of financial advice and planning for Betterment. “There are many people that misunderstand how the technology is being used. For example, we see the market will go down, and their account goes down, and they ask, ‘How come your algorithms aren’t dealing with this?’ We don’t have any algorithms that deal with that aside from tax-loss harvesting and things; there’s no market-timing algorithm that’s in there trying to make sure you don’t lose money. I think terms like robo-advisor imply to uninformed people that there is some kind of bot doing things like that.” He continues to explain that robo-advisors are actually “taking super-boring investing principles and enabling us to do that at scale with technology.”
“Robo-advisor is a very generic term for all types of models,” he adds. “There’s [building a] portfolio, there’s adding financial planning on top of that. There’s the fact you can also get an actual advisor. We’re one of a whole bunch of other firms that have all kinds of capabilities in terms of sophistication of financial planning. Some just have a calculator and some have very personalized financial planning advice. We all rebalance differently. We do tax-loss harvesting differently. Some have dedicated planners, and some have teams of planners.”
For simplicity’s sake, I’ll continue to use the word robo-advisor throughout this chapter. It’s currently a widely used term, so I’m not going to fight against the vernacular you’re used to hearing. However, Benke raised a fair point during our interview that the term robo-advisor gives investors a false impression of what many of the platforms do.
“I think the term is too narrow,” says Benke. “People think of Betterment as a robo-advisor, and yet we have an offering that involves people [financial advisors] too. Of course, there are lots of people behind the [robo] offering as well. We think online financial advisor is a little more correct. Because it implies use of technology, but it doesn’t pigeonhole in terms of how you’re getting that advice. The same person who wants to do it themselves without an advisor initially should be able to change their mind at different phases in their life.”
Each robo-advisor is different in both offerings and pricing models. Many robo-advisors handle IRAs and 401(k)s, so even if you’re only investing for retirement right now and not ready to put money into taxable accounts, you still could use a robo-advisor.
What follows is a high-level overview of the offerings of five robo-advisors. Generally, you will answer a few questions about where you are in life (e.g., your age and whether you’re retired) and your goals, total assets, and risk tolerance levels, and then you’ll be guided to various portfolio options based on your answers. Typically, you will then be invested in ETFs from various brokerages such as Vanguard, Fidelity, Schwab, and BlackRock.
These descriptions and price ranges are from the summer of 2018. You should always check company websites for the most up-to-date information, especially as competition in the marketplace is likely to impact offerings and pricing models.
Also, keep in mind that you’re generally still charged the expense ratio for each individual fund. You may read “no trade or transaction fees,” but most of the time that’s after the expense ratio. The expense ratio isn’t charged by your robo-advisor, it’s charged by the fund specifically, so your robo-advisor isn’t benefiting from or absorbing that fee for you. It is in your robo-advisor’s best interest to put you in funds that charge the lowest-possible expense ratio, because an expense ratio eats away at overall returns.
Digital ($0 minimum balance with a 0.25 percent annual fee)
Premium ($100,000 minimum balance with a 0.40 percent annual fee)
The Betterment Portfolio Strategy offers “a globally diversified mix of exchange-traded funds.” Both the Digital and the Premium options offer low-cost, diversified investment portfolios with automatic rebalancing, and tax-loss harvesting strategies. The Digital platform offers access to licensed financial experts, while Premium gets you unlimited access to CFPs and in-depth advice on investments outside of Betterment, like a 401(k) or real estate.
Basic ($0 minimum, 0.5 percent fees on $0–$99,999)
Black ($100,000 minimum, 0.4 percent fee)
Wealthsimple also uses ETFs that track the global economy. Both levels offer auto deposits, rebalancing, tax-loss harvesting, dividend reinvesting, personalized portfolios, and human financial advice via call, text, or email. The Black level offers all the Basic-level features plus goal-based planning, dedicated financial planning, and increased tax efficiency.
Digital ($0 minimum balance, 0.25 percent annual fee)
Premium ($50,000 minimum balance, 0.50 percent annual fee)
Private Wealth Management ($1,000,000 minimum balance with an annual fee based on assets under management)
Ellevest is run by women and geared toward women investors, but you don’t have to be a woman in order to invest with Ellevest. It typically uses ETFs to help you build your portfolio. The Digital offering provides personalized investment portfolios with the option for automatic deposits, no-penalty withdrawals if you want to take your money out of Ellevest, automatic rebalancing, Ellevest’s own tax-minimization methodology (tax-loss harvesting), and unlimited support from the Ellevest concierge team, which includes financial professionals. The Premium offering includes all the Digital perks plus one-on-one access to CFPs for personalized guidance and one-on-one access to executive coaches for help with career moves and negotiation.
0.25 percent annual advisory fee for everyone
Wealthfront doesn’t promote the use of financial advisors the same way some of its competitors do. It seems to lean in to the “robo-advisor” moniker a bit harder than its competitors by really focusing on the software and not adding a human touch. Even a philosophy on the homepage is “Technology can do some things better than people. We use software to better execute time-tested investment strategies.” Like its competitors, Wealthfront focuses on goal setting, determining your risk tolerance, and then building a well-diversified portfolio around that information.
0.75 percent annual fee, $50 minimum account balance
Swell is a slightly different offering from your average robo-advisor because it focuses specifically on impact investing. At the time of this writing, you can choose from seven different portfolios: Green Tech, Zero Waste, Disease Eradication, Clean Water, Renewable Energy, Healthy Living, and Impact 400. It’s a solution for those who want to invest but don’t want their money going toward companies they feel engage in unethical practices. You can learn more about ethical and impact investing in chapter 10.
“Hold up, you mentioned in the last section that the robo-advisor would be investing me in Vanguard, Fidelity, BlackRock, Schwab, and the like,” you might be thinking. “Couldn’t I just cut out the middle man and do it myself?”
Yes, you could. But even though you could, it doesn’t mean either that you should or that you’ll want to take on the task of being a DIY investor.
“Do-it-yourself can work when you’re ready to learn a bunch about what you should be doing, are ready to spend the time to execute that, and are ready to learn about what messes people up as humans looking at the behavioral finance side of it,” says Benke. “You may know you have to pick three funds across broad categories, rebalance at least once a year, and make sure you’re saving enough generally, but do you always rebalance? Do you look at the market before you rebalance? Do you look at fund level performance and try to decide if you should’ve picked that Vanguard Total International Fund or maybe now you should switch to the Schwab Total International Fund? There are a lot of factors that still come into play, even though people try to boil down the overall index fund strategy as simple and easy enough to do it yourself.”
“Definitely safe as long as the firm is SEC and FINRA registered and has SIPC insurance, which all the firms are basically required to have,” says Benke. “The common worry is that the firm is newer and will fold, and then what happens to my money? It’s different than a bank folding, because you’ll get the shares back and just have to put them in another, less fancy account. If the firm went out of business but you’re the beneficial owner of those shares, you would just in-kind transfer out.”
Benke also acknowledges that higher-net-worth individuals sometimes express concern over another Bernie Madoff situation resulting from investing with a robo-advisor. Bernie Madoff is a former investment advisor who ran the biggest Ponzi scheme in Wall Street history, which lost his clients billions of dollars. The fear is that when a robo-advisor tells you that you have X amount of money invested, how can you be certain the money is actually there?
The fallout from the Madoff Ponzi scheme really did change regulations in the financial world. “We’re required to have third-party auditors that come in and check that the money that we have for our customers is actually what we say we have,” says Benke. “These surprise audits happen at least annually, and they’re on record at the SEC, so clients can go and download the results.”
As with all investment choices, there are both pros and cons to using a robo-advisor.
The term tax-loss harvesting gets thrown around a lot when you’re looking at robo-advisors. It’s a big selling point for why you should use a robo-advisor, but what the heck does it mean?
“Since investments that you hold can go up and down, we hold different kinds of them to diversify them together,” explains Benke. “When they go down, the IRS has a bonus for you where you can save taxes by effectively taking a deduction for losses. The way you take that deduction is you have to sell the investment. The trick is that you don’t want to be uninvested, either. So, when you sell the investment, you also want to buy back [a similar investment] to ensure you keep your portfolio in shape. So, tax-loss harvesting is just a fancy term for looking for losses and taking the deduction to save you taxes.”
It makes sense why robo-advisors tout their practice of tax-loss harvesting as an advantage, because you won’t want to spend your time scouring your investments for tax-loss harvesting opportunities if you’re a DIY investor.
“Emotion is something we want to get rid of,” says Nugent. “We believe over time, markets will revert back to the mean. So, let’s look at the history of the US markets—the S&P 500 returns 7 to 9 percent on average. The problem is ‘average’ never actually happens. It’s usually higher returns and lower returns. If you’re getting double-digit returns, history would say that at some point you’re bound for a correction and a reversion to the mean. The same thing happens on the downside. If the market is negative for a bunch of years, history would show that at some point, people are going to look at it and say, ‘Things are on sale, and we’re going to go buy some.’
“But in the moment, when you look at all the headlines, they’re usually scary on the downside or really exciting on [the] upside. People typically don’t rebalance. What you end up seeing is people will hold their losers for far longer than they should and sell their winners prematurely. The idea is to systematize the logic around rebalancing and always be disciplined around when you’re going to trim off something and buy more of something else. So, we automate that process for our clients.”
Remember risk tolerance back in chapter 3 and how it’s important to protect your portfolio from yourself? Well, robo-advisors provide a buffer between you and your investments. Granted, you can always get in there and tinker with and even liquidate your investments if you’re really panicking during a market correction, but maybe using a robo-advisor will be enough to prevent you from getting hyper-emotional when seeing a dip in the market.
You’re going to be paying a fee if you want any level of customized financial advice. That’s completely reasonable. Fees themselves are not the issue. The issue is whether you’re actually getting the value you should for the fee you’re paying. Not all robo-advisors are created equal, so it’s up to you to do the due diligence and determine if your fee is worth the value you’re getting.
Unless you’re coming to the table with at least one significant comma ($100,000), you’ll likely get a rather generic version of personalized finance, with calculators and algorithms building a portfolio based on the questions you answer when you sign up. Robo-advisors will continue to evolve and tweak offerings, but it’s not far-fetched to think you’ll need at least $100,000 to get higher-quality service with more customization. Double commas will get you much more attention!
You just may be a natural DIY person, and that’s okay. You certainly can be hands-on with your robo-advisor if you want, but it does come back to that question of value. Why are you paying the fee, then?
“We’re big believers in being able to speak to someone who is qualified,” says Nugent. “But I don’t think it’s something that necessarily needs to be done on a full-time basis, at least for the average person.”
Many robo-advisors do provide access to financial advisors and, in some cases, CFPs, but the latter usually depends on your assets.
“What if you have a good advisor over the phone, but they get promoted or leave?” poses Douglas A. Boneparth at Bone Fide Wealth. “Maybe you poured your life situation out to Jim, and then call later to find out that Jim has been replaced by Kim. Jim took terrible notes, and now you have to start all over with Kim.”
While many robo-advisors do provide humans to give you financial advice, it doesn’t always mean developing a long-term relationship with an advisor. While you could also lose a financial advisor at a traditional brokerage firm, too, they often are better at coordinating a hand-off because you’ve had a long-term relationship with one specific person.
The typical Betterment customer, according to Benke, is around thirty-seven years old, is getting further along in a career, and earns around $100,000. His or her financial situation may be starting to get a little more complex, so he or she decides to outsource instead of going the DIY route.
Nugent describes a typical Wealthsimple customer profile in a similar manner. “[They are] very, very concentrated on their career and doesn’t have time necessarily to do this themselves or, frankly, maybe doesn’t trust themselves to do it themselves.”
However, you don’t have to be a “typical customer” in order to start. Since there is a plethora of robo-advisors with no minimum account balances required, the door is open for you to take advantage before you’re well established in your career or have a high net worth. You just need to be sure to have checked off all the boxes in chapter 1 indicating that you’re in a financially healthy position before you start investing. Or, you can also turn to a robo-advisor to help with retirement planning, especially if you don’t have an employer-sponsored plan.
“Any investor who has any sort of meaningful debt should pay that off,” says Nugent. “Someone needs to have the right time horizon. We say at Wealthsimple, if you’re investing for less than three years, you need to maybe just look at something that’s guaranteed like a cash equivalent. We want people thinking long-term because what happens month-to-month and year-to-year is unpredictable.”
As always, be sure you do the math on fees before you start. You want to be able to invest enough that the benefit outweighs the cost of using a robo-advisor.
Not to be one-upped, many brokerage firms have started to offer their own versions of a robo-advisor. Vanguard, Fidelity, and Charles Schwab are all examples of well-established brokerage firms that have launched robo-advisors with varying levels of functionality and capability.
However, just because the company you’ve been using to do your ETF or index fund investing offers a robo-advisor tool doesn’t mean it’s the one you should use.
It comes back to what you want from your robo-advisor and how it’s adding value. In some cases, you may find that it makes sense to level up from investing solo to getting customized advice from a company you already trust. In other cases, you might look under the hood and see that the brokerage just slapped together a robo-advisor option to compete in the marketplace and try to attract more Millennials to its services. Another consideration: you’re likely to only be investing in that brokerage’s funds. Going to a robo-advisor like Betterment, Wealthsimple, or Wealthfront means they’re looking for the lowest-cost funds at all the major brokerages.
Again, I’m not saying it’s a hard no. You just need to do your due diligence to decide if it’s actually best for you and makes your life easier.
Technology can only take you so far, and eventually it just may be time for you to speak to a human.
You should speak to an advisor “whenever you have questions you can’t answer or need confirmation,” advises Benke. “There’s also another end, which is if there’s a lot of complexity. You have many different types of financial goals, also you own a house, you work in two states, you have lots of kid-related expenses from day to day to long-term saving for college, your tax situation is complicated with different deductions, dependent care, transit, maybe a small business on the side. There are lots of things that make the picture more complicated and make it even more compelling to talk to somebody.”
In some cases, you can reach a human via your robo-advisor, but you may also have concluded that you’d prefer an ongoing personal relationship with a financial advisor. If that’s the right fit for you, then here’s what you should know.
Does he/she uphold fiduciary or suitability standards?
Fiduciary means your advisor does what’s in your best interest, not just what is suitable.
How does your advisor get paid?
Fee-only simplifies the relationship. If your advisor takes a commission, you should know when and if that impacts what he or she puts in your portfolio.
What are your advisor’s credentials?
A CFP, or certified financial planner, is really the gold standard, but not a requirement. If your financial advisor is not a CFP, you should still ensure he or she is a fiduciary and ask about credentials and experience.
“Go into that first conversation understanding it might not work out that first go-around,” says Kelly Lannan, director, Fidelity Investments. “Go in with the highest hopes, but at the same time, know that it might not stick and you have to be okay with that. You have to go in with specific questions in mind. You have to be very honest about your situation. After the fact, reflect on that conversation and ask yourself if this is the person to help you or do you want to speak to someone else.”
Want a human advisor but worried about being rejected based on your small stack of cash? Don’t worry, size doesn’t matter to all advisors. Here are some resources for you to consider if you want to hire a financial advisor:
XY Planning Network: XYPN is an organization of fee-only financial advisors specifically focused on Generation X and Generation Y clients. Advisors are required to be both CFPs and fiduciary advisors, which helps reduce the research you need to do. There are no asset minimum requirements, and some advisors offer a monthly retainer service. You can also reach your advisor virtually. You can learn more at XYPlanningNetwork.com.
Garrett Planning Network: Garrett offers clients access to a network of fee-only, fiduciary CFP professionals. Members of the network do not accept commissions or any other compensation directly from clients. There are no income or asset minimums to become a client, and many offer one-off meetings by the hour if you’re looking for help on a specific issue instead of a long-term relationship. You can learn more at garrettplanningnetwork.com.
National Association of Personal Financial Advisors: NAPFA is another way to find fee-only, fiduciary CFPs; however, some NAPFA advisors have asset minimums for clients, as the organization has no rule dictating that they can’t. You can learn more at napfa.org.
Ask a friend: Try your own network of friends and family to see if they have any recommendations for a financial advisor. There is one caveat here. You may not want to use the same financial advisor as your bestie or your parents or siblings. It could be akin to using the same therapist. Obviously, they shouldn’t be sharing your personal information, but it might just feel a tiny bit awkward.
There’s nothing wrong with taking advantage of both worlds.
“People have a need for advice when they need it on their own terms,” says Nugent, a former wealth services provider himself. “Whether that’s through video chat, the phone, text message, email, or in person, everyone has a different kind of style. If you’re going through some sort of life event, it’s complicated. It’s not always black and white. Technology is really good at solving the black-and-white challenges that exist, but the ability to speak to someone human provides a different perspective that makes you think about other things that might be happening.”
Using a robo-advisor now might be the best way for you to enter the market, invest consistently, protect your portfolio from your own meddling hands, and still get some human advice along the way. Then, as your life and financial needs change, perhaps you end up pivoting to working with a human advisor. But even that doesn’t mean transferring all your assets away from your robo-advisor and over to a human. You can still do both if you prefer. Remember: it depends!
☐ You’re ready to start investing in the first place!
☐ Your financial situation isn’t too complicated.
☐ You want help.
☐ Do you need or want a long-term relationship with a person?