The use of robo advisors are one of the fastest growing sectors of the investing world. And for good measure. However, they are not good for all people in all situations. Let me explain.
What is a robo advisor?
A robo advisor is a financial advice service that is built (usually using AI) to streamline and simplify the investing process.
There are several specific robo advisor platforms that one can use. But most (if not all) brick and mortar financial advising firms also use robo advisors within their practice.
When you sign up for a robo advisor platform the platform will ask you several questions such as:
- Your age
- Your desired retirement date
- How much you have in savings
- What your risk tolerance is
- How much money do you need to live
- Where do you plan on retiring
- Etc.
Each platform will ask their own series of questions, but these ones are pretty standard.
With this information, the robo advisor will put you into a cookie cutter investing plan along with other people of similar circumstances.
With all that being said about what robo advisors are, here are the benefits and drawbacks of them.
Benefits of Robo Advisors
Lower Cost
This is BY FAR the largest benefit of robo advisors.
A traditional human advisor will usually offer fees of somewhere between 1 and 2%.
But if you have been following me for any sort of time, you will know that you should be paying no more than 1% or so in fees to a human advisor.
But a robo advisor will charge you much less. Typically there are fees of about 0.5%. And I have seen them as low as 0.2%.
Low Barrier to Entry
The second benefit of robo advisors is the low barrier to entry.
A lot of real life investment advisors will have a minimum amount that they will manage. Often, this is $250,000-$1,000,000.
With a robo advisor, often there is no minimum investment amount. If there is, it will likely be something like $500.
So if you are just starting out and don’t have a lot of money, a robo advisor is a good route to go.
Efficient Tax Loss Harvesting and Rebalancing
This is where things get a little more technical but I won’t get in the weeds too much.
Robo advisors will efficiently buy and sell securities within your portfolio. They do this to make sure that you stay with the asset allocation that is most beneficial to you.
This is a common practice even with human advisors.
But the difference with robo advisors is that they can do it much more efficiently using AI. Robo advisors can buy and sell stocks, bonds, mutual funds, ETFs, and index funds within your portfolio to minimize or eliminate any tax burden that you may have. They can also properly balance your portfolio to your required asset allocation and not let you get too out of whack.
Most in person advisors will do this once or twice a year.
Robo advisors can do this each day.
Drawbacks of Robo Advisors
No Human Touch
If talking to a human being across the table from you is important, then a robo advisor may not be the right path for you. Some brokerages have programs where you can talk to an advisor when needed, but often that incurs extra fees.
Difficult to Plan for Changing Circumstances
Throughout life, your circumstances will change. You will have an unexpected child, you might get an unexpected inheritance, lose a job, get an awesome bonus, etc.
Robo advisors have a hard time accounting for these changing circumstances. Yes, there are tools within them to help navigate these things, but they are not as good as a human advisor.
Not So Good for Complicated Situations
This is potentially the biggest drawback of these types of advisors.
If you have a complicated situation, a human advisor is probably what you need.
There are lots of situations where there is no replacing the human touch and understanding.
Just like autopilot on a plane, the pilot still needs to handle the takeoff and landing as well as any oddities within flight.
If you have a complicated tax situation, the purchase and/or sale of businesses, complicated estate proceedings or inheritance proceedings, then you will probably be better off with a human advisor.
Final Thoughts
Robo advisors are a great tool that most investors can use, especially when starting out.
But as with pretty much all financial matters, there is no one-size-fits-all approach.
The situation depends on you.
You can do this!
Until next time!
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