What is a Robo-Advisor?
Robo-advisors are digital, algorithm-driven financial planning and investment services. They operate with little to no human oversight and are almost completely automated.
These services may simply offer advice to clients or automatically invest client assets based on that client’s financial goals, risk tolerance, and other factors.
The first robo-advisor (Betterment) was launched in 2008, but the technology that powers automatic portfolio allocation has been around since the early 2000s. Until Betterment’s release in 2008, however, automated investing tools were only available to (human) financial advisors as tools to help them more efficiently serve clients.
Today, robo-advisors have been developed to handle much more sophisticated tasks than simple portfolio allocation, things like tax-loss harvesting, investment selection, and retirement planning.
These capabilities, combined with low management fees and low portfolio minimums, have made robo-advisors tremendously popular.
The Benefits of Investment with a Robo-Advisor Service
The first—and for many the most attractive—reason to use a robo-advisor is cost. Automated investment and portfolio management services offer benefits similar to those of human advisors, but at a significantly lower price.
Another benefit of robo-advisor services is that they never sleep, and they are always working on behalf of their clients. This concept of client accessibility is baked into robo-advisor services, and it extends to account minimums as well.
Human advisors often won’t take clients with less than $100,000 to invest. Robo-advisors, on the other hand, have much lower account minimums—commonly less than $5,000, with some services requiring no account minimum at all.
What Does This Mean for Investors?
With low account minimums and easy-to-use digital interfaces, investors who previously didn’t have enough to invest with a human advisor can participate in the market with expert management at low cost.
This is particularly attractive for younger investors who are still accumulating assets to invest and are already tech-savvy. Some platforms, such as Acorns, are designed to appeal to these types of investors.
Older investors are taking to automated investment services as well. Many see robo-advisors as low-cost alternatives to human advisement when executing buy-and-hold strategies.
The Disadvantages of Robo-Advisor Management
The clear disadvantage of a robo-advisor is that the human touch is missing. Robo-advisor services gather information about client goals and personal profiles using survey questions and standardized forms. While efficient, these methods of information gathering do not foster a back-and-forth conversation that a human advisor would use to paint a fuller picture of a client’s financial situation.
Not only does the lack of a personal touch mean that your robo-advisor will always be at arm’s length, it also means that advice or recommendations may actually be harder to follow.
It is easy to follow the advice of a robo-advisor when it’s telling you to make easy decisions, but during times when hard decisions must be made—such as during a market drop—the advice to ride out choppy waters and resist the urge to sell off is easy to ignore when it is just a notification on your computer or phone.
In this case, an experienced human advisor is a clear advantage.