What Is Robo Investing

By David Krug David Krug is the CEO & President of Bankovia. He's a lifelong expat who has lived in the Philippines, Mexico, Thailand, and Colombia. When he's not reading about cryptocurrencies, he's researching the latest personal finance software. 7 minute read

Your employment is in danger of being taken by a robot. Or at least if you’re a financial adviser. This decade has seen the rise of a new breed of financial advisors to challenge the established big-name organizations in the investment consulting industry. 

These Robo-advisors originated as venture-backed firms with the intention of shaking up the traditional finance sector. Robo-advisors have been so successful that several traditional investing firms have begun offering their own versions.

Nonetheless, it is important to weigh the benefits and drawbacks of using a Robo-advisor before making a final decision.

How Do Robo-Advisors Work?

Robo-advisers are automated investment management services. They are also known as virtual advisors. Portfolios of any size can take advantage of their easy accessibility and openness. Also, the fees they charge are much more reasonable than those of human financial planners.

Robo-advisors require account opening paperwork that includes questions about investing aims, comfort level with risk, and demographic data like age.

Then, based on your individual circumstances, their system will recommend an investing plan. You can either move forward with the planned asset allocation as is or change your answers to make adjustments.

Consider the hypothetical case where a virtual financial advisor recommends an allocation of 40% domestic stocks, 40% foreign stocks, 15% bonds, and 5% real estate. If you choose an asset allocation and then deposit money into the account, it will automatically invest that money in the same way.

Most Robo-advisors don’t invest in individual equities. Instead, they put their money into passive index funds that track the performance of broad market measures such as the S&P 500. That provides extensive market exposure at minuscule fund expense rates and expense ratios.

In a nutshell, Robo-advisors perform the same functions as traditional financial advisors but without the human element. Only there aren’t any hefty fees involved, and there’s no minimum investment amount required.

Robo-Advisory Examples

Many of the Robo-advisors out there are undoubtedly already well-known to you. This is by no means an all-inclusive list, but here are a few of the most well-known types of virtual advisors:

  • Personal Capital
  • Betterment
  • Blooom
  • SoFi Invest
  • Schwab Intelligent Portfolios
  • Acorns
  • Wealthfront
  • Ellevest
  • SigFig
  • Axos Invest

Learn more by checking out our ranked list of the top Robo-advisors available today.

The Basics of Robot Advisors

Some fundamental characteristics are present in all Robo-advisors. Consider the features listed below as you begin your search for Robo-advisors.

Lower Fees

The fees charged by Robo-advisors are typically far cheaper than those of human advisors. SoFi Invest and Schwab Intelligent Portfolios are two examples that don’t cost you anything extra to manage your investments.

Robo-advisors can save you money on fund fees in addition to the asset management costs which are a percentage of your investment balance. Expense ratios are fees levied by all mutual funds and most exchange-traded funds (ETFs). 

Fees can range from around 0.05% annually for passively managed ETFs the type invested in by Robo-advisors to over 2% annually for actively managed mutual funds. To save you money, Robo-advisors minimize both sorts of charges.

Minimum Investment is Low (or None)

Robo-advisors have made investing advice and asset management accessible to a far wider audience. Due to the fact that most human investment advisors receive their fees as a percentage of assets under management, the typical starting point for working with one is a sum of $50,000 to $250,000 or more.

The requirements for signing up for a Robo-advisor are typically much lower. Some of these services have a set monthly subscription, while others don’t charge anything at all.

Comfortable Onboarding

Robo-advisor account setup typically takes under five minutes. To open a brokerage account, you must provide the standard information such as your name, address, and SSN, and you must also typically link a bank account to your brokerage account so that you may make deposits and withdrawals.

Next, you fill out their quick questionnaire to specify your risk tolerance, investment preferences and desired retirement age. After you input your investment preferences into the Robo-profile, advisors will recommend an asset allocation based on those preferences. 

Once you approve this allocation or decide to make further changes to your profile, you can start making deposits and letting the algorithm handle your investments.

Computerized Transfers

The best Robo-advisors let you schedule periodic automated transfers. Investing and saving regularly doesn’t have to be an act of willpower if you set up an automatic savings plan.

More importantly, it helps you invest with less emotion, which is associated with much better returns. Instead, the time-tested strategy of dollar-cost averaging can be implemented through the use of automatic, recurring investments.

Every week, my Robo-advisor transfers the specified amount that I have instructed it to transfer. If everything takes place automatically, without my involvement or even awareness.

Rebalancing Automatically

As some of your investments do better than others, your overall asset allocation will gradually shift. 

An initial allocation of 40% domestic equities, 40% international stocks, 15% bonds, and 5% real estate might gradually shift over the course of a few months to 35% domestic stocks, 50% international stocks, 5% bonds, and 10% real estate.

Consequently, Robo-advisors will rebalance your portfolio without you having to lift a finger. They reduce their holdings in high-performing stocks and increase their purchases of low-performing ones.

While that may seem paradoxical at first, doing so aids in selling high and buying low and avoiding an overconcentration of assets in one category.

The Top Robo-Advisors’ Best Features

Not all Robo-advisors are created equal. Some are free, while others have a fee; some come with a ton of bells and whistles, while others keep things straightforward. Keep a look out for these premium features on the higher end of the spectrum.

Additional Account Options

There aren’t many investment vehicles offered by Robo-advisors beyond taxable brokerage and individual retirement accounts.

Still, others go the extra mile by handling other accounts as well, such as 401(k)s, HSAs, and 529s (HSAs). Be sure to ask if the Robo-advisor you’re considering offers the types of accounts you need before signing up.

Harvesting Tax Losses

To help pay less in taxes, tax-loss harvesting is a feature offered by some of the more expensive Robo-advisors. Take Betterment claims that its unique tax-loss harvesting approach may boost returns by 0.77 percent per year.

In order to reduce the amount of tax you owe, you can use the proceeds from the sale of losing investments to offset the capital gains you’ve realized on your winning investments. It improves your effective returns by decreasing your capital gains tax liability.

Socially responsible investing

Although not every investor is bound by the principle of socially responsible investment, many who are believe it to be a must.

When using a Robo-advisor, you may have the option of restricting your investments to those that meet certain social responsibility criteria. It’s a more advanced capability, similar to tax-loss harvesting, that you won’t find on most basic Robo-advisors.

Human Hybrid Consultants

You might expect to spend more on tailored financial guidance and investments. Consider the realm of investment advice as a spectrum. The simplest and typically cheapest Robo-advisors can be found on one end of the spectrum. 

On the other hand, if you want to receive as individualized and tailored an investing strategy as possible, you can go with a human advisor.

More and more features become available as you progress along that scale. The most valuable premium feature is the ability to consult with a real, live financial pro-one-on-one.

In recent years, human-machine advisory models have become increasingly common. When using this combined method, you still fill out the same questionnaire and receive the same proposed investment portfolio from the underlying algorithm.

However, after that, you can speak with a real human investment counselor over the phone. Together, you and your advisor can adjust your asset allocation to better suit your circumstances.

Following initial configuration, your account will function similarly to a Robo-advisor. You can set up automatic payments, and your money will be invested and rebalanced based on your preferred asset allocation strategy. 

Talk to a live advisor when you have any investing-related questions or when you wish to make any changes to your portfolio composition.

Who Has a Need for Robotic Advisors?

Common Americans don’t require the services of a hybrid or classic human investment advisor. Simple access to low-cost or no-cost Robo-advisors can help individuals get their financial footing and start amassing wealth.

As one moves from middle class to affluent status, however, their requirements alter. Your investment portfolio will become more intricate, your tax liability will increase considerably, and you will need to give greater thought to the possibility of legal action and the need to safeguard your wealth.

You may want to consider hiring a human/machine hybrid advisor if your net worth is beyond a specific threshold, say $500,000 so that you can receive individualized recommendations for your investment portfolio.

If you have a minimum of $1,000 to invest, a free Robo-advisor account is a good place to start. If you have $1,000,000 to invest, you should start looking at either a human hybrid or a conventional human investment advisor.

The Prospects of Robotic Advisors

Considering the proliferation of free Robo-advisors, one would wonder how the industry profits. For financial planning firms, free Robo-advisors are a loss leader. Clients of lower and intermediate incomes can make use of this no-cost service to get their investment careers off the ground.

The moment these customers begin making progress and amassing resources, they become viable financial assets. Human hybrid advising, financial planning services, insurance, mortgages and loans, and full human advising for more affluent clients are all offerings that advisory firms can then promote to their clients.

That’s the way I see the market developing. Financial advising firms catered primarily to the affluent in the 20th century. As the century progresses, I anticipate widespread adoption of these services across the United States, with much of the profit coming from the sale of more expensive plans to middle- and upper-class customers.

Bottom Line

The advent of Robo-advisors has made it possible for regular people in the United States to seek professional assistance with their initial forays into the stock market. Investment management and advice, made simple, with no account minimums and low costs.

This means there are zero justifications for keeping your money in the bank. Launch an investment account with as little as $20 to start putting your money to work.

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