Find Out if Robo-Advisors Can Make Your Retirement Investing Easier
- Which factors retirees specifically need to watch out for with robo-advisors
- The benefits and drawbacks retirees must consider
- 5 tips on how to select the right robo-advisor for your situation
Are you looking for a simple, easy-to-implement solution for managing your investments in retirement?
Are you on the fence about taking a do-it-yourself approach, and want to explore the options robo-advisors present?
Or maybe you just want to learn more about robo-advisors.
You’re in the right place. We’ll answer all of your questions so you can make an informed decision as to whether robo-advisors are right for your situation.
How Robo-Advisors Work
Robo-advisors entered the investment scene between 2008-2010 offering an automated investment solution specifically targeted to online investing.
At first, many of these services were start-ups, but over time, established firms such as Vanguard and Charles Schwab have started competing with early adopters.
3 Steps To Get Started:
- The first step to opening an account is to choose the robo-advisor you’d like to invest with.
- Second, you sign up to use the service. When opening your account you’ll be asked various questions which will help the robo-advisor determine your risk tolerance, as well as the best investment solutions that fit with your goals.
- Finally, the robo-advisor then uses an algorithm to create a portfolio for you based on the answers you provided, and voila, you have an investment plan, or asset allocation, to invest your money in.
While that’s a slightly oversimplified version of the process, but it’s not too far off-base.
The point is, robo-advisors are extremely convenient and easy to work with. You don’t have to worry about scheduling a meeting with an advisor or getting to that meeting. You also don’t need to worry as much about emotion entering into the equation, which can be beneficial when investing.
Additionally, robo-advisors are usually more cost-efficient than using an in-person financial advisor. That’s because their overhead is lower and the business model is scalable with computers managing your portfolio – not a person, so the fees are lower. Lower fees mean you get to keep more of your hard-earned money, and every percentage point counts (learn more about the high cost of advisor fees here).
Additionally, it’s worth noting that financial advisors typically underperform the indexes, so while individual guidance might seem like it’s nice to have, it’s worth questioning if those advisors are giving you enough value to warrant what you’re paying them.
Robo-advisors commonly use ETFs and low-cost index funds to build your portfolio, and these portfolios are generally based on Modern Portfolio Theory, similar to strategies used by the vast majority of the financial planning community. That means your portfolio should be diversified, as ETFs and low-cost index funds are comprised of a variety of assets, but the all-in cost structure is often much lower than a personal financial advisor.
To learn more about the surprisingly important impact of investment costs see this related video, “How Your Financial Advisor is Taking 75% (or more!) Of Your Retirement Income.”
When You Should Consider Using a Robo-Advisor
Let’s first cover who shouldn’t use a robo-advisor.
Robo-advisors may seem intimidating when you’re not technologically savvy. If you’re not comfortable navigating through the user interface of a robo-advisor website, then this service probably isn’t right for you.
If you’d rather have personalized, individualized attention from an advisor, then a robo-advisor isn’t going to work for you. There are some services that offer personalized assistance with your questions, but it’s rare that you’ll have a dedicated advisor, unless you’re investing large sums of money (over $1M).
Conversely, if you already have considerable investment expertise and hold all your assets with a low cost provider then robo-advisors may not provide any cost advantage.
Finally, if you have a somewhat complicated financial picture, then the solutions that robo-advisors offer may be too limited in scope.
In other words, when you sign up with a robo-advisor, you’re signing up for an automated investment service, not a financial plan. The two are different and may require different solutions, depending on your situation.
Okay, let’s switch gears to people who might enjoy using a robo-advisor. Those include:
- People looking for a no-fuss, turn-key investment solution because they want to be hands-off with their investing
- People looking for convenience who don’t mind the lack of a dedicated professional to assist them
- People looking for low-cost investment solutions that also have low minimum requirements
- People who have simple needs that robo-advisors meet, or uncomplicated situations that are easily managed by a robo-advisor
If you meet any of the above criteria, read on for more information and check out our listings for potential robo-advisors.
Pros and Cons of Robo-Advisors
Let’s review what makes robo-advisors great first, and then we’ll look at some of the potential downsides to be aware of.
Pros of Robo-Advisors
- Convenience: Because robo-advisor services are only available online, you have access to your account information at all times. You don’t need to call and check in with anyone to see how your portfolio is performing, and customer service solutions are typically readily available, depending on the account you have.
- Unemotional: As humans, we’re prone to making emotional investment decisions that aren’t in our best interests. Having a computer handle all of those decisions according to proven financial science, and without emotion, can be beneficial.
- Inexpensive: The most common robo-advisor management fee is around 0.25%. However, the actual fee you’ll pay varies with your account balance, so if you have $10,000 invested, the 0.25% fee = $2.08 for that month. Since robo-advisors favor low-cost index funds and ETFs, the expense ratios of the funds you’re invested in should be lower as well. This makes for an overall less expensive solution when compared with traditional financial advisors.
- Less barriers to entry: Unfortunately, many financial advisors are looking for clients who have a great deal of wealth to invest with them. If you have under $100,000 in assets, you may have a difficult time finding someone who will work with you. Robo-advisors solve that problem because most of them have very low (or no) minimum asset requirements to start investing with them.
- Tax loss harvesting: Many robo-advisors include daily tax loss harvesting as a feature of your account. What this means is that computers will scan your holdings on a daily basis, looking for investments that can be sold at a loss (which has the potential to save you money on taxes), and then replace them with similar, better-performing assets.
Cons of Robo-Advisors
- Untested in a bear market: As we mentioned before, robo-advisors came into existence around 2008 to 2010. As a result, most investors have only seen their portfolios perform well. They haven’t been tested in a severe bear market (as of 2019).
- Lack of guidance: Some people feel more comfortable knowing that there’s someone watching over their portfolio, whether it’s cost-effective or not. While some robo-advisors offer a hybrid approach, you’ll rarely have one person dedicated to your account, so the assistance you receive is less personal. Not only that, but if you’re not super comfortable with all the investment terminology out there, you may feel uncomfortable going through this process alone. There’s nothing wrong with that – you just have to know what’s right for you.
- There are tiers of service: Don’t be afraid to dig into the fine print on some of the robo-advisor websites before committing to an account or service. The reason is because many services offer accounts with different features based on the amount of assets you have with them. So those with under $10,000 may have no fees associated with their account, but those with $50,000 may have fees. It’s also very common to see personalized investment services offered to those who have more assets, so if you see that feature offered and it’s the reason you’re choosing that service, make sure you qualify for it.
- Not all accounts are supported: Not all robo-advisors offer investment services for all types of accounts, meaning that some won’t support the management of 401(k)s, 403(b)s, IRAs, or taxable accounts. Make sure the accounts you have are supported before making any decisions.
With all that said, it’s still up to you to do your due diligence before choosing a robo-advisor, just as you would if you were choosing a financial advisor. Not all robo-advisors are equal; many of them offer different features and services, and many of them serve different demographics. Find the one that best fits your needs from the choices in this article.
Quick note: if you have an existing relationship with a financial advisor, you’ll want to double-check any agreement you have with them to see if there are any fees to transfer your assets to a robo-advisor.
Also, if you need to sell off any of your holdings, you might incur capital gains, so take this into account.
If You Want a Financial Advisor…
If you love everything about robo-advisors, save for the “robo” part, the good news is that many robo-advisors offer some sort of human assistance.
More often than not, you’ll have this option included depending on how much you invest with them.
This connects back to the “tiers of service” con listed above – there is a chance you’ll be locked out of this option, depending on which robo-advisor you choose and the amount you invest so make sure to check for that feature if it’s important to you.
How to Select the Right Robo-Advisor
Now that you have a broad overview of what robo-advisors are, what they offer, and what the benefits and drawbacks are, let’s go over some quick tips for sorting through the different choices available.
- Senior specialist: If you’re nearing retirement or are already retired, it might be helpful to find a robo-advisor service that’s geared towards seniors. These services are more likely to have features that are useful to your situation. For example, some robo-advisors fail to account for required minimum distributions that begin at age 70 1/2, but there are a select few that offer the option to configure those withdrawals automatically when the time comes. Without that option, you’ll have to remember to set it up yourself, which can be a total pain.
- Pick the feature that’s most important to you and focus on that. Chances are it narrows your selection significantly. Below are some features to consider:
- Personal advisor assistance
- Minimum investment requirements
- Management fees
- Expense ratios
- Types of funds offered for investment
- Types of investment accounts they support
Just this short-list of features can dramatically narrow the list of candidates that fit your needs, and below are a few additional factors to consider when making your choice:
- Are there no fees charged? Research how the company makes money, or how they’re funded. You want to make sure they have staying power.
- Look into who will hold your funds. Some robo-advisors are partnered with bigger banks, and those banks hold the funds, rather than the robo-advisor. It’s a good idea to know who you’re working with.
- Research the investments that the robo-advisor offers, especially if you want to invest in socially responsible funds, or if you’re concerned about expense ratios. Even if you’re not the most knowledgeable investor, it’s worth taking a look, as you don’t want to get ripped off.
- Finally, research how the robo-advisor will optimize your portfolio, and how it will rebalance it. Some robo-advisors take different approaches, and one might be better for you.
Want to Try a DIY Approach?
There are a lot of free resources on this website to help you pick the right investment service for your needs. Check out our various retirement savings articles here, and alternative investment strategy articles here. If you want something more comprehensive, you can also take a look at our Expectancy Wealth Planning course.
Robo-advisors are desirable for their simplicity, accessibility, and low fees when compared to the cost structure of investing with a traditional, personal financial advisor.
But that convenience and savings comes at a cost. Depending on the amount you invest, you may not have access to the personal service you want, and it probably won’t include a comprehensive financial plan.
However, the financial plan issue is easily and affordably solved by this course here so all options are available to you.
There is no right or wrong answer. It’s simply a matter of deciding which combination of services best fits your needs and will help you achieve your financial goals.