Robo-advisor is a fun term for automated investing. Aka a robot that manages your money.
Here are the deets you need to know about robo-advisors, if and when you should use one, and the best options out there.
What is a Robo-Advisor?
You know how jobs are being taken over by our bffs slash worst-enemies, computers and robots? Well, turns out even wealth management isn’t safe from being made redundant by technology.
Robo-advisors automate your investing plan so you don’t have to think about it. You put your money into the robo-advising account, just like you would a savings account. The robo-advisor does its thing and invests your money in stocks, bonds, or other assets, and, fingers-crossed, at the end of each investment period your total amount of money has gone up rather than down.
In exchange for using the robo-advisor’s services, you pay a fee which is drawn out of your account.
To make your money grow faster, you can automatically deposit a set amount each month into the robo-advisor account, just like a savings account.
Types of Robo-Advisors
Robo-advisors come a few different types. You can have a robo-advisor manage your 401k, your IRA, your Roth IRA, or regular, taxed money.
The year-end tax forms you’ll fill out will differ, but it’s not too complicated. If you wanted, you could use more than one robo-advisor for each kind of account.
Pros of Robo-Advisors
Pros:
- Set-it-and-forget-it investing style
- Lower fees than traditional investment management
- Suitable for most people’s investment needs
- Often have low or zero account balance requirements
- Most offer automatic rebalancing
- Most offer tax-loss harvesting
- Tax-loss harvesting is the automated selling of portfolio assets so you incur losses and avoid capital gains tax or taxable income. Aka the robot helps you pay fewer taxes
Cons:
- No human interaction (though maybe this is a pro for anti-social peeps?)
- Less personalized than traditional asset management
- No individual stock picking
- Not always the cheapest option
- No guarantee of good returns (same as any investment)
What Kind of Returns Do Robo-Advisors Provide?
When you buy an ETF or target-date fund, you can look at the fund’s returns over time.
With robo-advisors, portfolio returns are not always available to non-customers. Which makes it hard to know if it’s even worth it to use one.
The robo-advisor Betterment does have a chart of their returns compared to the average private client investor, which you can view here.
From January 2004 to June 2020, a Betterment portfolio of $100,000 in 100% stocks would have given an investor an average 7.1% annual return.
Compared to someone who invested $100,000 in the S&P 500 over that period, they would have gotten a 7.9% return.
In dollars and cents, the difference between a 7.1% and a 7.9% annual return over that 16-year period is $144,036.
Soooo, the Betterment customer missed out on over $100k by using Betterment rather than just buying an S&P 500 index fund.
HOWEVER!
If you are the type of person who is hesitant to invest on your own, who struggles to manage their money and automatically deposit savings into an investment account… a robo-advisor could be a great solution for you.
Robo-advisors make investing easier and less emotional. Think of them as little robot friends holding your hand through the investing process.
Should You Use a Robo-Advisor?
Don’t get mad with this answer but, like, it depends.
It depends on how much control you want over your investments.
It depends on if you don’t feel comfortable buying a few diversified, low-cost ETFs or a target-date fund or individual stocks and bonds and investing that way.
It depends on if you want help setting and achieving your financial goals.
What you should know: using a robo-advisor is more expensive than managing your investments yourself.
But if you are time-poor or nervous about investing, a robo-advisor might be a way to regularly invest your money with less stress and time.
And certain robo-advisors (like the ones below) provide a lot of additional perks like on-call financial advisors, cash-back for shopping with certain vendors, and financial education so you can learn more about how to manage your money.
A Closer Look at Popular Robo-Advisors
The decision to use a robo-advisor is up to you, but to help you out, here are some of the most popular robo-advisors out there.
Betterment
Highlights: Automatic deposits, tax-loss harvesting, option to design your own portfolio. Provides 0.30% interest on cash accounts.
Account Minimum: $0
Fees: 0.25% annually
Wealthfront
Highlights: Selects low-cost investments from 10 global asset classes to build your portfolio
Account Minimum: $500
Fees: 0.25% annually
Ellevest
Highlights: An investment platform designed for women that automatically invests your money in stocks, bonds, and alternative funds. Helps you plan for retirement and other life goals. Membership includes access to online learning workshops and coaching from financial planners.
Account Minimum: $0
Fees: Memberships range from $1 to $9 a month
RECAP
Robo-advisors automatically invest your money for you via algorithms. Unlike paying a human financial advisor to manage your money, you pay a much smaller fee to have a company manage your money for you.
A robo-advisor is for you if you have zero interest in picking your own investments for your retirement account, but you know you need to start investing.
Robo-advisors are a great middle-ground between DIY investing and paying for a financial advisor to manage your money. They cost more than DIY investing but require a lot less time to manage.
Before you sign up with a robo-advisor, ask a customer service agent if they’ll provide you more information on their investing strategy and annual returns over a 1-year, 5-year, and, if available, 10-year period. Compare those returns to the returns from a standard S&P 500 index fund.
Further Reading
How to Start Investing: A Step-by-Step Guide
U.S. Stock Market Indexes Explained: What’s a Market Index?
