If you read the Wall Street Journal or listen to Bloomberg News, you’ve probably heard about robo-advisors. However, you may not know what it is or whether it’s the right service approach for your estate planning and investments.
Although it sounds like something from a science fiction movie, robo-advisors are quite ‘real’. They are automated digital investment advisory services – available online and through apps – that provide investment management without the intervention of a person, i.e. a human investment advisor.
Emerging in recent years as an alternative to traditional sources of advice, robo-advisors use computer algorithms, or sets of rules, to choose appropriate investments. The choices are based on a person’s risk tolerance, time horizon and other preferences indicated from an initial online questionnaire.
The Benefits of Robo-Advisors
There are advantages to robo-advisor services: it’s faster and less expensive than working with a personal investment professional. According to a recent report from the Securities and Exchange Commission (sec.gov), “Robo-advisers often seek to offer investment advice for lower costs and fees than traditional advisory programs, and in some cases require lower account minimums than traditional investment advisers.”
That lower-cost management, combined with features like automatic portfolio rebalancing and tax-loss harvesting, can translate into higher net returns for investors. Although some experts feel those gains come at a price.
“Robo advisors fill a space in the market for people who do not have a significant amount to invest, prefer to engage only with technology, or don’t have the kind of complex financial situation that requires a direct relationship with a human financial advisor,” said Wendy Fishman, Executive Vice President and Senior Trust Officer.
According Nerdwallet.com, a financial information clearinghouse, robo-advising is also a fit for people who “prefer to be largely hands-off” with their investments and like letting someone (or something) else do the work of building and optimizing their portfolio.
To sum up, a robo-advisor can be a good fit if you:
- Are young - with more than 20 years till retirement.
- Have a simple portfolio- no accounts with other financial services.
- Are unsure about where to begin.
What Robo Doesn’t Provide
While select investors may fit the robo profile, robo-advisors also come with drawbacks and caveats. According to Money Magazine (money.com) the negatives include:
- Robots Have Limited Powers. “They’re limited in the types of accounts they can manage for you, focusing mostly on IRAs and taxable accounts.
- Human Help Comes at a Price. Robo-advisor companies have begun to offer the ability to contact human financial advisors into their online advice services. In this ‘cyborg’ or ‘hybrid’ model, the access to human help may be limited and the advice you do get won’t be as comprehensive as what you could get from a good financial advisor,” according to the Money Magazine article. It will also come at a more premium cost.
- Robo-Advisors are still new. “They have a relatively brief track record, making it unknown how they will behave in a bear market.”
Robo vs. Human In a Volatile Market
The need for human financial guidance becomes more acute during periods of severe market volatility. Perhaps that was proven when, on Monday, Feb. 5, while the U.S. equity markets experienced their steepest decline in years, the websites for two of the largest stand-alone robo advisor companies crashed and the robo-advising products at three of the largest U.S. investment firms also experienced website problems.
To that point, 74 percent of investors would prefer to engage with an advisor when markets are volatile, according to Capital One Investing’s survey of 1,003 people in mid-January 2018.
The Benefits of a Human Financial Advisor
As their algorithms become more sophisticated, robo-advisors may gain the ability to be more diverse. But don't expect machines to replace the people anytime soon. There are just too many benefits to interacting with an actual person, i.e. a trained, professional advisor, for wealth management and estate planning:
Personal Relationship – Having a personal relationship with an advisor fosters trust and an understanding of more complex, layered estate and investing needs. In addition, your personal advisor is on hand to connect and assist during important life events and adapt investment and planning strategies to meet ever-changing needs and goals.
Holistic Approach - Robo-advisors make trading decisions using mostly economic or market conditions, which is why they will never be able to manage investments for clients holistically. A personal advisor can bring a variety of other factors to the table to help make trading decisions, including the potential impact on an investor’s overall wealth, family members and life goals.
Manage Emotions – It may sound strange but a person’s wealth is often tied into their sense of self and of security. During times of market downturns, people get scared. It’s a perfectly natural reaction to negative financial news. Fear is a powerful emotion, and if unchecked, it can lead people to make hasty decisions they may later regret. A trusted advisor knows how to calm people when they are scared and keep them from making poor financial decisions both inside and outside of their portfolio.
Wendy added, “Robo-advisors will never be able to replicate or be a substitute for the human touch. Professional financial advisers like those of us at Caldwell Trust Company, listen to and care about our clients. We offer more holistic and true wealth management advice around planning for a household, for retirement, for a child’s education and, of course, to increase wealth for generations to come.”