You’ve got some savings. Now, what’s the best way to grow your money pile?
While there’s no hard and fast rule about that, most people would probably agree it’s got to do with making the right investment decisions and not paying too high a price for someone to make those good decisions for you.
That’s what robo advisors promise to do. A robo advisor is an online service that professionally invests your money for fees that are often less than half what the banks or investment managing firms charge.
When you sign up with a robo advisor, you usually have to answer an online questionnaire about things like your financial goals and how nervous you get when the stock market goes down. The robo-firm will then invest your funds in low-cost exchange-traded funds (ETFs) based on your personal profile and risk tolerance. The annual fee for the service is around 0.5 per cent here in Canada, which is significantly lower than the 1-2 per cent you would easily pay for traditional investment advice.
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Paying a fraction of a percentage more may not sound like much, but it can make a big difference over the span of 25-30 years of investing. For example, a $50,000 investment with a rate of return of 5 per cent per year would grow to around $169,000 over 25 years. With a 0.5 per cent fee, you’d get to keep around $150,000, according to investment expert Larry Bates’ online calculator. You tripled your money over the course of a quarter century. With a one per cent fee, though, your return is only around $133,000, losing $36,000 in fees. And with a two per cent fee, you would barely double your money, with a whopping $64,000 lost to fees.
It’s easy to see why robo-advisers like Wealthsimple and WealthBar have been saluted as nothing less than investment-fee liberators in Canada. But financial advisors warn that robo-firms’ cookie-cutter approach aren’t a good fit for everyone.
And robo-firms aren’t the only or necessarily the cheapest options if you want to slash your fees. If you invest by yourself through a discount broker like Qtrade or Questrade, you can save even more.
So when does it make sense to choose robot over human?
When robots win
Robot vs. busy, procrastinating, panicky you
To be clear, robo advisors aren’t run by robots. These companies use human beings, not algorithms, to build your portfolio or give investment advice. But they do use technology for daily maintenance of your accounts.
For example, suppose that, based on your profile, your robo advisor determines that you’re a low-risk investor that should have half of its portfolio in low-risk fixed-income investments like bonds. If the stock market surges, suddenly higher-prices stocks will make up a larger slice of your investments. A robo advisor uses technology to rebalance your portfolio to bring you back to 50 per cent stocks and 50 per cent bonds.
This automatic tweaking and rebalancing can be a big advantage of robo advisors compared to DIY investing, even for some relatively savvy investors.
For one, rebalancing is a lot of work. Benjamin Felix, associate porfolio manager at PWL Capital, noted this in a recent YouTube video on the pros and cons of investing with robos.
For another, computers are “blind to emotions,” said Daniel Tersigni, portfolio manager at Wealthsimple. They won’t be tempted to stick with stocks when prices are rising or sell when the market turns south, which requires a considerable amount of mental discipline if you’re investing by yourself.
Robo advisors also make it easier to invest monthly savings deposits and calculate how much taxes you owe on your investments (if you hold money outside an RRSP or TFSA), which can also be tricky and labour intensive, according to Felix.
Finally, robo advisors make it really easy to invest. You sign up, answer a few questions and you’re done. The risk of trying to invest by yourself is that you’ll end up pushing it off. That procrastination is likely to cost you, on average, far more than a robo advisor’s fees, Felix said.
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Robot vs. investment manager with high fees and competing interests
Robots win hands down against most investment advisors at the banks, Felix told Global News. That’s because they tend to have high fees and competing interests: Yours and those of the bank.
“The bank is selling you their products,” he said, whether it’s picking investments for you or advising you on buying a house or retirement.
Robo advisors, like independent investment management firms, Felix continued, are discretionary portfolio managers, which are required to act in the interest of their clients.
“The banks are not. They are required to act in the interest of their shareholders,” he said.
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When humans win
Robot vs. well-informed, on-the-ball, cool-headed you
If you’re a confident and disciplined investor with enough free time to tweak your portfolio on regular basis, then the case for robo-advisers seems weak. And DIY investing is becoming easier and easier with new, turn-key products like Vanguard’s One-Fund Solution ETF, an index fund that rebalances itself, and TD’s e-Series Funds, which will automatically invest regular deposits, Felix noted in his YouTube exposé.
Robot vs. independent, dedicated financial advisor when you need financial advice
Robot advisors also fall short when you need a significant amount of financial hand-holding.
“We spend half of our time talking about taxes, financial planning and family issues,” said Ted Rechtshaffen, president of TriDelta Financial.
Robo advisors may be all you need if you’re in your 20s and all you need is investment management. But if you’re starting a family or planning for retirement, investing may be only a small part of the financial puzzle you need to figure out.
While robo advisors often offer some financial advice, what you get may be limited.
At Wealthsimple, for example, you can pick up the phone and quickly get connected to a human being who will help you decide whether, say, you’re better off putting your money into an RRSP or a TFSA, Tersigni said. And if you invest $100,000 or more, you also get access to financial planning services.
But the company told Global News it has only nine registered portfolio managers, who are certified to give in-depth financial advice. With Wealthsimple’s 80,000 clients, the math works to nearly 9,000 clients per advisor.
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And if a robot won’t sell off your investments during a market crash, nothing prevents you from shutting down your robo advisor account in a panic. Another advantage of having a dedicated investment advisor is that she or he can walk you off the ledge, Rechtshaffen said.
Whenever the market sours, “I would say a quarter of our clients … we have to talk them down from ‘I want to sell everything,'” he said.
And talking to an advisor can also help you be a slightly more daring investor, which could lead to higher returns.
“In my experience, a simple conversation about risk often leads to higher risk tolerance,” Felix noted in his YouTube video.
But the catch with firms like Felix’s PWL Capital, which offers both investment management and financial planning and charges fees of one per cent or less, is that they usually focus on clients who have at least $500,000 to invest.
“That’s not really attainable for a lot of people,” Felix acknowledged.
Combining robot and human
Robot advisors are a good option for people with a simple financial situation who don’t have the time or the inclination to manage their own investments and don’t mind paying a fee for a hands-off approach, and don’t really feel the need to discuss money matters face-to-face with a human being, both Felix and Rechtshaffen said.
And if life grows more complicated but your net worth doesn’t quite grow enough to win the attention of a full-service wealth management firm, you could think about paring a robo advisor with the services of an independent financial adviser.