Wealthfront, the pioneer of robo-advice, with headquarters in Palo Alto, California, leads the new sector with US$2.6 billion under management.
The fintech boom has also helped Australian companies enter the field through players such as Midwinter, Ignition Wealth, InvestSmart, and many others.
Interest in robo-advice by entrepreneurs is so high right now that one of the conference panellists noted: “It’s getting harder and harder to differentiate between all of the robo-advisory start-ups.”
What is robo-advice? At its core, robo-advice uses a questionnaire to determine a customer’s risk profile and suggests some ratio for splitting investments between shares (‘risky’) and bonds (‘not so risky’).
The ‘shares’ being recommended are typically exchange-traded funds (ETFs), as seen by the portfolio recommended by Betterment, which is limited to four ETFs from Vanguard: Total Stockmarket ETF, Value ETF, Mid-Cap Value ETF, and Small-Cap Value ETF.
With such a limited menu of choices, customers become little more than animals in the herd, often ending up with a portfolio of perhaps only a couple of ETFs.
What is behind the surge of interest in robo-advice? We see two primary drivers – simplicity of use and reduced costs.
Algorithms are the ‘science’ behind robo-advice, as opposed to the ‘art’ of traditional investment research – guaranteeing countless hours of legwork and higher fees.
The value proposition for robo-advice is that it can produce investment strategies more efficiently than human advisers.
But robo-advisers do not research stocks or analyse financial statements. They are cheaper, perhaps, but what is the value of such advice?
The real problem robo-advice is attempting to solve is not the inefficiency of traditional investing.
The truth of the matter is that there is a major disconnect between people's price expectations and the actual cost of traditional investment advisers.
Customers are happy to pay $300 a year while financial advisers need at least $3,000 to sustain their businesses.
Can robo-advice resolve this contradiction? There’s no doubt it’s cheaper than human advice.
But can its cost advantage compensate for its faceless, mechanical nature, lack of human touch, and lack of dialogue?
According to a recent KPMG report, 84 per cent of Gen Ys do not think they need professional financial advice.
Whether robo-advice will win the hearts of Millennials remains to be seen, but it is unlikely to win their minds since there is not much for the mind to contemplate.
What might win their minds, though, is a new type of financial adviser who can empower them with knowledge and efficiently lead them on their investing journey using modern technology.
Millennials value involvement, as revealed by KPMG: “I’d rather do my own research and learn from my own mistakes,” stated one focus group participant, “than pay an adviser $200 to invest $1,000.”
We believe a decent alternative to expensive, full-service advisers exists, and it doesn’t have to be framed in terms of ‘robot versus human’.
It is rather about technology complementing human interaction. It is about rethinking the role of the financial adviser and is best formulated by the principle of: ‘Stop managing and start leading’.
Consider the words of Mark Bouris, chairman of wealth management company Yellow Brick Road:
“We know young people generally reject financial advice the way the industry tends to serve it up. They prefer coaching to help them make decisions they can implement. They don’t want advice from someone who does it all for them. They want to be taught how.”
Wise words indeed.
Eugene Kaganovitch is the co-founder and director of Synchronised Investments.
