November 20, 2018
Robo Advisor Update
Hey folks, we’ve seen some great info come out around robo advisors in the past months. I thought this would be a good time to update you all with a little information in and around this space.
By way of reminder: “What is a ‘Robo Advisor’?”
There are lots of ways to invest in the market. When we say markets, we generally mean stocks and bonds.
You can buy stocks and bonds directly – this is done with a broker like etrade or Robinhood. Or through a brokerage firm/wire house like Merrill Lynch or Morgan Stanley. If you use an independent broker, you have to pick the stocks and bonds to buy. If you use a broker, they will give you tips and advice on what to buy.
You can buy a pool of stocks and bonds – traditionally this meant a mutual fund. Instead of buying individual stocks and bonds, you bought a share in a fund. The fund manager used that money to buy a series of stocks and bonds (and pay him/herself a management fee).
There is also a trend called “passive investing” – where you buy an ETF or Index fund. These are essentially mutual funds except that they have very low costs because they track an entire index (e.g. S&P 500). And just buying all the same shares that are in index doesn’t cost much to maintain, so you get a broad portfolio for very low costs.
Financial advisors are in the business of telling you which indexes to buy and/or which mutual funds/stocks to buy. This is important to understand. If you have a private advisor (like Ameriprise, Raymond James, LPL Financial, etc), they are charging you a management fee that is in addition to whatever fee the mutual fund managers charges you.
A Robo Advisor does what a financial advisor does by selecting the funds you buy. The difference is, they do it with a computer program that builds an asset allocation. And so their fee is typically much lower than a traditional financial advisor. In addition, they build a portfolio of index/ETF funds (not mutual funds), in most cases, so the execution cost is low as well.
This is a fairly new arena but a new ranking came out (the first one!) ranking Robo Advisors. I thought this was super interesting and it seems to be pretty in line with my experiences. I generally don’t encourage one or the other (although I do think that Robo Advisors are a great option for most people).
The best part of this is that it gives you different vectors. Some people might think that performance is the most important factor – for others it might be usability. But this gives you the chance to see what might be best for you!