Can a Robo-Advisor Make Your Retirement Investing Easier?
Robo-advisors provide an easy-to-implement solution for saving for retirement outside of a 401(k) and even for managing your investments in retirement.
If you're on the fence about taking a do-it-yourself approach to retirement investing, robo-advisors offer an affordable alternative to working with an individual financial advisor or investment manager. In this article, we'll answer all of your questions about robo-advisors so you can make an informed decision as to whether a robo-advisor is right for your situation.
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How Robo-Advisors Work
Robo-advisors entered the investment scene between 2008 and 2010 to offer investors an alternative to mutual funds, online brokers and expensive financial advisors. Put simply, robo-advisors use algorithms and decades of data to construct highly-diversified portfolios of index funds that are suitable to most investors. Robo-advisors excel at two things:
- Taking the guess-work out of constructing the ideal retirement portfolio on your own
- Dramatically reducing investment management costs when compared to traditional financial advisors
Although the first robo-advisors were start-ups, the model has become so attractive that now established firms such as Vanguard and Charles Schwab are competing in the space, too.
Robo-advisors are Simple!
Robo-advisors are attractive to many investors because they're so simple. Compared to opening a brokerage or mutual fund account and constructing your own portfolio of several (or many) funds or stocks, opening a robo-advisor is a piece of cake. There are essentially just three steps to opening a robo-advisor:
- Choose which robo-advisor you want to work with and sign-up.
- Answer a series of questions which will help the robo-advisor determine your goals, timeline, and risk tolerance.
- Fund your account.
That's it! 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, 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).
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 (for example, someone you can call with a question or for an explanation of recent market performance), 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 already hold all your assets with a low-cost provider, then robo-advisors may not provide a 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
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.
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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.
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:
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.
Does the robo-advisor claim to be fee-free? That's unlikely. 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.
The Best Robo-advisors to Consider
As the field of robo-advisors grows, selecting the best robo-advisor for your investments will become more confusing. This is especially true as large banks and investment houses add robo-advising options, as we expect most will. Not only will other robo-advisors begin to steal existing investment dollars away from traditional brokerages and mutual fund companies, but many younger investors will start investing exclusively with robo-advisors due to their low-costs and entirely digital platforms.
That said, we think there are four robo-advisors to look at as you begin considering whether one of these companies makes sense for you: Betterment, Wealthfront, Wealthsimple, and Vanguard Personal Advisor Services.
While The Financial Mentor stops short of endorsing any particular company, we have vetted these companies and feel confident offering them to our readers for consideration.
Compare Betterment, Wealthsimple, Wealthfront & Vanguard
Over $2M: 0.15%/year (basic), 0.30%/year (premium)
Over $100k: 0.40%/year
|Assets Under Management|
|Advice||Premium investors have access to a CFP®||Black-level investors ($100k+) receive a complimentary financial planning session; Generation-level investors ($500k+) have access to an advisor||None||Ongoing access to a dedicated CFP®|
|Unique Features||Standard tax-loss harvesting • 401(k) guidance • High-yield cash account||Sustainable portfolios • Halal portfolios • Cash account • Additional perks for Black-level investors||Standard tax-loss harvesting • 529 college-savings accounts||Personal advice from a CFP®|
|Best For||Retirement saving • Short-term goals • Tax-efficient investing • Hands-off investors||Personalized advising • Canadian investors||New investors • Hands-off investors||Vanguard loyalists • Investors wanting regular assistance from a CFP®|
|Link||Go to Betterment »||Go to Wealthsimple »||Go to Wealthfront »||Go to Vanguard »|
In the past 10 years, Betterment has risen from a small start-up with lofty plans to become the “robo-advisor to beat” with approximately $16 billion in assets under management as of publication. Betterment offers taxable individual and joint accounts, traditional, Roth, and SEP IRAs, as well as trust accounts.
Betterment offers two levels of service, both with competitive pricing. Betterment's basic Digital Plan has no minimum balance and includes everything you would expect from a robo-advisor: Automated portfolio creation based on your unique needs, portfolio rebalancing and tax-loss harvesting, and 24/7 customer service. Betterment charges 0.25% of invested assets per year for the Digital Plan, unless you have more than $2 million invested with them, in which case the fee drops to 0.15%/year.
Betterment also offers a Premium plan which includes all the benefits of the basic plan but adds unlimited access to a team of Certified Financial Planners (CFPs) who are available to help with the financial planning needs that aren't traditionally included with robo-advisor services. Betterement's planning team can help you manage assets that aren't managed by Betterment, such as 401(k)s or real estate, as well as create and amend your personal financial plan that takes into account your entire financial picture, not just the assets you have invested with Betterment. There is a $100,000 minimum investment to access Betterment's premium plan. The Premium Plan's fees are 0.40%/year for balances under $2 million and 0.30%/year for balances greater than $2 million.
Wealthsimple is a Canadian-based company serving both Canadian and U.S. investors. As a relative newcomer to the robo-advising space, Wealthsimple is growing rapidly due to their specific appeal to Millennial investors. With options for taxable accounts, IRAs and trusts, Wealthsimple has no minimum account size requirement but slightly higher fees than competitors: 0.50% for accounts with less than $100,000 and 0.40% for accounts with more than $100,000. Although you might dismiss Wealthsimple offhand for these higher fees, it's worth noting that Wealthsimple offers features that other roboadvisors don't, including:
- Portfolio reviews of non-Wealthsimple investment accounts
- 401(k) analysis and assistance
- Sustainable and Halal investment portfolios
- A savings account option on par with the top high yield savings accounts
- Free, high-quality investor education courses
Investors with more than $100,000 invested at Wealthsimple also get access to additional features through Wealthsimple's “Black” program:
- A financial planning session
- VIP access to more than 1,000 airport lounges in 400 cities through Priority Pass
- Additional tax benefits through tax-loss harvesting and tax-efficient funds
Finally, investors with $500,000 or more invested with Wealthsimple qualify for their “Generation” program. This includes:
- Access to a dedicated financial advisor team who can provide on-call advice.
- Comprehensive financial planning
- Individualized financial reports
- Custom portfolios
Our take on Wealthsimple is that it's a good option for Canadian investors who can't invest elsewhere but also a reasonable competitor to Betterment's Premium plan for investors with at least half a million to invest wanting access to a team of financial planners. Investors with less than $500k or who don't need the financial planning services will save money investing elsewhere.
Wealthfront was another early-entry robo-advisor that has now grown to an impressive $11 billion under management. It has a $500 minimum investment balance and a flat fee structure—all accounts pay 0.25% per year regardless of size. In addition to taxable accounts, IRAs, and trusts, Wealthfront also offers 529 college savings accounts.
Like Wealthsimple, Wealthfront users have access to an online savings accounts competitive with top high-yield banks. Unlike Wealthsimple and Betterment Premium, Wealthfront has no option to speak with a financial advisor—all advice is automated and online-only. That said, Wealthfront has notably good customer service for investors needing assistance setting-up or managing their accounts.
Vanguard Personal Advisor Services
Vanguard, the world's largest mutual fund company, was among the first major investment houses to join the robo-advisor fray with its offering, Vanguard Personal Advisor Services. For a fixed 0.30% annual investment fee, Vanguard will create a tailored portfolio based upon your answers to a goal and risk questionnaire. Once enrolled in the service, Vanguard will provide quarterly rebalancing and annual check-ins with a Certified Financial Planner on Vanguard's staff. Advisors are also available to answer questions anytime.
Vanguard requires a $50,000 minimum to use Vanguard Personal Advisor Services, which is in a different league from the other robo-advisors listed here, which require—at most—just $500 to get started. Vanguard's robo-advisor service may be appealing to DIY investors who already hold assets in Vanguard mutual funds, but want someone else to take over their portfolio construction and rebalancing. Then again, many investors who choose Vanguard in the first place are focused on low-cost investing, to which paying an additional 0.30% a year may seem inapposite.
Conclusion: Robo-advisors are a Viable Alternative to DIY Investing
Our guess is that robo-advisors will be most appealing to do-it-yourself investors looking to reduce the headaches of managing their own portfolios and receive some peace-of-mind that their portfolio is optimized and efficient. Although robo-advisors may steal some business from individual investment managers who charge much more, the markets are different, and robo-advisors simply cannot replace the personal attention an individual advisor brings to the table.
If you're thinking of starting to or continuing to invest on your own, 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.
If, however, you'd prefer to keep your investing as simple and hands-off as possible, 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.
You Don't Need A Financial Plan, You Need A Wealth Plan
If financial independence is your goal, did you know that there are only four paths you can choose to get there? And, that you must choose carefully, because only one path is successful most of the time?
Want to know more? Discover the four paths to financial independence, learn why you must choose your path wisely, and claim five free lessons from The Financial Mentor's Expectancy Wealth Planning Course.