Robo-advisors are exploding across the investment landscape. These digital investment advisors are competing with human financial advisors for investment dollars and pushing down fees. Consumers benefit by greater choice and lower fees. But, are you better off investing on your own, or going digital?
The Old School Passive Investing Approach
Followers of the passive index fund investing strategy strive to match market returns by investing in a diversified portfolio of low-fee index mutual or exchange traded funds. This approach was initially introduced in 1975 when Vanguard created the first index fund, Vanguard Index Trust. Index fund investing has grown in popularity as reams of research show that most active fund managers underperform the indexes. CNBC.com recently touted this finding in an article by Tom Anderson, “Active fund managers rarely beat their benchmarks year after year”.
So, if you’re reasonably sophisticated and follow the passive investing strategy, you can invest on your own. Buy a few index mutual funds or ETFs, reinvest your dividends, rebalance annually and you’re on your way to a market matching investment strategy.
And if you think matching the market returns is for losers, check out the data. Aswath Damodaran of NYU Stern School of Business keeps a running tally of aggregate returns of the S&P 500, T-Bills and T-Bonds from 1928 through the end of each year.
Geometric Average Asset Class Returns for 3 Time Periods
3-Month T. Bill
10-Year T. Bond
Just considering the last 10 years, a 60% S&P 500 and 40% 10-Year Treasury bond portfolio would have yielded an annualized 5.96% return. That's a conservative investment approach and includes the recession and 2008 market meltdown of -36.55% S&P 500 return.
But, before you DIY, find out if a robo-advisor might offer an investment strategy for you.
What Does the Typical Robo-Advisor Offer?
Most robo-advisors invest your money in a portfolio of diversified index ETFs in line with your risk profile. The digital platform then rebalances the funds periodically back to your desired asset allocation. Some robo-advisors also offer tax-loss harvesting plans for taxable accounts. Other robo-advisors include financial advisor access as well.
For the privilege of using the automated service you’ll pay a management fee from a low of zero for the WiseBanyan Robo-Advisor and Schwab’s Intelligent Advisor on up to 0.89% of AUM for more sophisticated platforms.
How to Decide Whether to Invest With a Robo-Advisor or DIY
DIY Investing Pros and Cons
DIY seems easy. Choose your preferred asset allocation or percentage directed toward various asset classes - stocks, bonds, cash and more. Buy funds in the appropriate percentages and rebalance yearly. If you’re confident in your basic investing knowledge and have the time to rebalance annually then go ahead with the DIY approach. The only fees you’ll pay are the underlying fund management fees.
If you have a large portfolio, it might take some time to implement the DIY approach. First, you need to keep the portfolio updated every month or so. Next, performing the rebalancing can be cumbersome if you hold more than 5 ETFs or have a large net worth, across a variety of investment accounts. In this case you might be interested in a combination DIY vs robo-advisor solution.
If you’re very busy, even if you have the skill to manage your own investment portfolio, a robo-advisor might be the best choice for you. It might be worth the annual robo-advisor management fee to outsource your investment management.
As a starting point, you might investigate the best robo-advisor returns for 2017. But, don’t let performance be your only consideration. Look under the hood of the advisors' investing method as well as the annual management fees.
Robo Investing Pros and Cons
The advantage of investing with a robo-advisor is that it’s a one-stop shop for fund selection and investment management. Some robo-advisors, such as Betterment, offer human financial advisors as well. The robo-advisory fees are typically lower than most financial planners. The robo-advisor investment theory is generally sound and based on modern portfolio theory.
That all sounds dandy - low fees and professional management. But, the investment asset classes are generally fixed. If you want a REIT allocation in your robo-advisor portfolio, you may or may not have access to that asset class. Interested in a small-cap value ETF? Again, your robo-advisor might not have that option in their fund choices. So, investing in a robo-advisor can be limiting. Finally, as this technology is so new, there’s little data to support robo-advisors’ performance during a bear market.
Robo investing or DIY isn’t necessarily an either-or. You can choose to have a robo-advisor manage a portion of your assets and DIY the rest. That said, make sure that you consider the asset allocation of all your investable assets when setting the robo-advisory asset class percentages. For the busy, investor, letting a robot manage your money isn’t that different than outsourcing your cooking to Blue Apron or your gardening to TaskRabbit.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: Additional disclosure: I have a small investment in WiseBanyan. I use the Personal Capital free dashboard. Information provided on Robo-AdvisorPros.com is for informational/entertainment purposes only. This information should not be construed as professional advice. Please seek a certified professional financial advisor if you need assistance. Per FTC guidelines, Robo-Advisor Pros may be compensated by third party companies that are mentioned either through advertising, reviews, affiliate programs or otherwise. All reviews and articles are our researched personal opinion and no compensation will sway our opinion.