What are Robo Advisors & Which are The Best Ones?

Best Robo Advisors

The idea of a robot managing your money might seem odd. The term ‘Robo Advisor’ is being applied to numerous new ways to manage your money. There is no single model for automated investment, and ‘Robo Advisor’ could mean any number of things.

Investment management has been a great business for big banks and specialty money managers like hedge funds. Successful hedge funds can gain as much as 20% of their clients’ profits, as well as an annual charge for their services. Robo Advisors offer very similar services, but at much lower costs.

By the end of the year, a hedge fund client can end paying more than a quarter of their returns in fees, which is quite pricey for investment management. Investment firms that deal with the general public tend to be a bit cheaper, but most mutual funds lag the major indices in terms of performance.

Why Trust a Robo Advisor?

The simple fact is that over time, the vast majority of investment products don’t produce great returns. The seminal text “A Random Walk Down Wall St.” by Burton G. Malkiel explains that in most cases, money that is managed by investment funds tends to produce lower returns than simply buying a broad index like the S&P 500.

Following Mr. Malkiel’s logic, the best way to invest is to buy a wide range of equities for as cheaply as possible. Of course, Mr. Malkiel’s ideas aren’t true in a holistic sense. There are speculators out there like George Soros who can spank the market, but most people can’t get a person like Mr. Soros to manage their money!

Ideas like Mr. Malkiel’s helped to launch the mutual fund revolution, and then later the shift to Estrange Traded Funds (ETFs). Today a person can buy a broad index of stocks on the cheap, but this isn’t enough for the vast majority of investors. Most people want to hold a mix of debt and equity, and also concentrate their money in specific places geographically.

The new class of Robo Advisors helps people to create specific portfolios, or invest with some form of strategy or goal (like algorithmic trading or Socially Responsible Investing ‘SRI’). In the same way, there isn’t a ‘one size fits all’ to investment management, there are numerous Robo Advisors available today.

Strip Out the Human Factor

If you follow the financial markets, you might know that how retail investors buy and sell assets is used an indicator of what not to do. The idea is: in most cases, retail investors get it wrong. The smart money wants to see how many suckers are coughing up their stocks on the cheap (after a big fall), so they can snap them up.

It might sound a little harsh, but it is true that people can be their own worst enemy when it comes to money. Humans are emotional creatures. Many people let their emotions run their personal lives, including the investment decisions they make.

It is easy to hope for amazing returns from an investment and stay around for way too long when it doesn’t work out. Putting your money to work responsibly isn’t easy, which is why professionally managed funds tend to outperform individual investors.

Robo Advisors take you out of the investment selection process to varying degrees. When you sign up to use a Robo Advisor, most will ask you about your tolerance for risk, and your investment goals. Based on these answers, a portfolio will be assigned to you. Some Robo Advisors don’t work along these lines, but most do.

One of the biggest advantages that algo-driven Robo Advisors have over human investment advisers (besides cost) is that while a human investment adviser will have a professional distance from you and your potentially fatal financial mistakes, they will still be a human.

Over the last few years, a new kind of investment methodology has emerged at the highest levels of finance. Algorithmic trading combined with AI-driven quantitative analysis has changed the way that the financial markets work. Now there are options for retail investors that take advantage of these advanced systems.

A Diverse New Investment Sector

In the vast majority of cases, Robo Advisors will be far cheaper than using a financial planner. It is important to add up all the fees that a Robo Advisor will charge, but in most cases, they won’t cost you more than 1% of the capital you invest with them per year.

Some Robo Advisors will require a high initial investment, and others are perfect for younger people who are looking to save over the long haul. There are Robo Advisors that use human investment managers to create portfolios that their clients can select, but there are a multitude of automated investment ideas hitting the market today as well.

One of the most important things to understand is that in most cases, your money will be held by an investment company, who will be responsible for returning it to you. In this way, Robo Advisors are very similar to existing investment management companies, or mutual funds.

It is important to know where the Robo Advisor holds its clients’ money, and who would be covered by deposit guarantees.

In the same way that bank deposits are insured by public deposit insurance schemes, most investment accounts are covered by similar insurance funds. Before you send you money off to a Robo Advisor’s custodial bank, make sure your nest-egg will be insured if the Robo Advisor goes bust.

There is nothing wrong with using more than one Robo Advisor (RA) either. Some RAs have a very specific focus and could make sense as a trial investment. Regardless of which platform you choose, be sure to have a good idea of what you want to get out of your RA platform before you jump in.

Best Robo Advisors

Before we delve further into what makes a great Robo Advisor, here is a quick glance of some of the best options available to you. We have reviewed all these providers in detail on Moneycheck.

Robo AdvisorHighlightsFeesMinimum

Blooom
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  • No Account Minimum
  • Low Fees
  • Professional Account Management
  • Automatic Rebalancing
$10 Per Month$0
EXO Investing Review

Exo Investing
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  • Low Fees
  • AI Driven Investments
  • Access to Hundreds of ETFs
  • No fees for Portfolio Rebalancing
  • FCA Regulated
0.75% – 0.5%£5000

Money Farm
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  • Competitive Fees
  • Great Customer Support
  • FCA Regulated
  • Easy to Use
  • Low minimum requirement
0.7% – 0.4%£1

Wealth Simple
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  • Low account minimum and no extra fees
  • Investment in fractional shares
  • Easy to Use
  • Access to financial planners
  • Tax-Loss Harvesting
0.5% – 0.4%$0
Fidelity Review

Fidelity
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  • Low Fees
  • Pathfinder System
  • Long History & Well Established
  • Will pay Penalty Fees for Moving to Them
  • Great for Funds
0.35% – 0.20%£50

What is a “Robo Advisor”?

In its most simple sense, a Robo Advisor (RA) falls somewhere an ETF or mutual fund, and a human investment manager. There are also exotic RAs that use advanced algos to trade with your funds, but these are rarer than a RA which creates portfolios with the help of humans and automatically assigns one to you.

RAs are able to offer advanced portfolio management services at cut-rate prices because of the current state of the financial markets. The past few decades have seen a huge number of new investment products enter the market.

Without financial instruments like low-cost ETFs, most RA platforms couldn’t exist.

Before we take a deeper dive into what RAs are offering, let’s have a look at the some of the things that RAs rely on to function. Not every RA will use the same investment techniques or instruments, but it is worth understanding the tools that the RA industry has at its disposal.

 

Exchange Traded Funds (ETFs)

With the exception of algorithmic trading (algos), ETFs are the most recent financial innovation on this list.

An Exchange Traded Fund (ETF) could be a fund that represents just about anything that regulators will allow, but they generally try to focus them on a common financial instruments or market, like the ‘GLD’ ETF that represents gold, or the ‘SPY’ ETF that tracks the performance of the S&P 500.

Today there are thousands of ETFs across the planet, and just about every major market or debt instrument has a corresponding ETF. An ETF can be managed toward a specific goal, or just designed to track a major index.

One of the biggest benefits that ETFs offer is their rock-bottom fees. Regular investors generally pay well under 1% in management fees to hold an ETF, and many Robo Advisors have created all-inclusive ETF fees that allow investors to buy and sell ETFs within their portfolios at super low costs.

What is an ETF?

Read: What is an ETF?

Mutual Funds

Mutual funds were the best tool for diversification before ETFs came along. While some mutual funds did try and approximate the performance of a broad market index, they are far more likely to be focused on a specific sector or investment class.

The drawback to mutual funds is their relatively high cost. Before ETFs, mutual funds made a lot of sense, and there was basically no competition. Now, mutual funds aren’t as popular as they once were, though many investors still use them.

Much like an ETF, a mutual fund can hold/track the value of both debt and equity. Mutual funds can also be actively or passively managed, and some still manage to create some decent returns.

The real drawback to investors who want to be able to rebalance their holdings is that most mutual funds have strict policies on how often their clients can enter or exit a fund. Combined with their relatively high management fees, it isn’t hard to see how mutual funds are losing their competitive edge.

Mutual funds aren’t used by Robo Advisors as much as ETFs. Most Robo Advisors can approximate the performance of a mutual fund via direct holdings in stocks or bonds, or via ETFs.

Best Index Funds

Read: What are Index Funds?

Algorithmic trading – (Algos)

Algorithmic trading (Algos) is a new, popular way to invest. Algos aren’t an asset class, but they allow traders and portfolio managers to make investment decisions by using advanced mathematics. In many cases algos work in tandem with advanced quantitative analysis systems to make investment decisions, and these platforms are taking over the global marketplace.

Any form of active portfolio management today is probably using an algo of some form. The major banks all have their own platforms, and there are also hedge funds that have created algo driven trading systems. Many Robo Advisors use some form of algo in their portfolio management system, and it is good to know if a prospective RA is using algos to recommend investment strategies to you.

Human Portfolio Management

Believe it or not, lots of Robo Advisors have teams of human portfolio managers who create and rebalance the portfolios you are assigned. Many Robo Advisors also offer their clients access to the portfolio managers, if they have higher-level accounts.

In this way, some Robo Advisors are more or less like a new kind of mutual fund company. Whether you decide to invest with a company like Fidelity or a Robo Advisor, there is a good chance you are buying funds that are the result of human investment decisions.

Every Robo Advisor Will be Different

As mentioned above, the idea of a ‘Robo Advisor’ isn’t specific. RAs use a hybrid approach to investment management which allows them to drop the cost of semi-bespoke portfolios to less than 1% per year, in most cases.

In general, a RA will offer you an incredible value for your money, assuming you aren’t investing tens of millions of pounds. One of the biggest reasons why RAs rock is that they offer a high level of investment sophistication to younger people who wouldn’t get much from established money managers.

Some RAs have minimum investments that start at £1, and most are less than £500. It might sound silly, but actually saving money is the basis of getting ahead financially. The established financial community has been geared toward higher-net-worth individuals or people who are saving for their retirement via work-sponsored investment programs.

Putting Something Away for the Future

Now, there are many young people who are working in ‘gig economy’ jobs and don’t have a firm grasp on financial planning. Platforms like Robin Hood are great for people who want to build their own portfolios or trade shares directly, but lots of people couldn’t tell you the difference between preferred shares and put options.

On the other hand, just about everyone who works can spare a few pounds from their paycheck for the future, and most RAs have no minimum deposit once the account is open. Additionally, some have tax-deferred accounts that will allow you to contribute up to a certain amount of money per year.

The majority of RAs also offer a high level of data and statistics for their clients and access to their portfolios 24/7 from mobile devices. Despite the fact that RAs are a relatively new idea in the retail investment sector, they are worth learning more about.

How To: Pick the Right Robo Advisor

Every investor will have different goals and tolerances for risk.

While most Robo Advisors will give you a questionnaire that assesses your investment goals and understanding of finance, it is best to think about what you want to get out of your investments.

Looking at how the Robo Advisors user interface and deposit/withdrawal system is organized is also important. Some investors will want a lot of data, while others only need daily performance reports to be happy.

The important thing is that you choose a Robo Advisor that fits your needs, and does what you want it to do. One area where Robo Advisors shine is their ability to take a comprehensive approach to an individual investor’s needs, especially if that means balancing both shares and bonds.

Every RA will offer you different features and will take a unique approach to how they manage your investment.

Some RAs offer their clients the ability to customize premade portfolios. Others don’t give their clients many options when it comes to portfolio modification and would prefer that another portfolio was selected if the client’s investment goals change.

Common Account Types

Robo Advisors offer a range of account options for investors of all sorts. The most basic type is a brokerage or taxable account. Other accounts will offer tax-deferred plans that are in-line with government regulations, and some RAs also offer Socially Responsible Investing (SRI) accounts.

Brokerage/Taxable

The most basic account type is probably a brokerage or taxable account. Investors can generally deposit as much money as they want in this account type, and withdraw it in whatever quantity the RA’s policies allow.

These are great starter accounts, but it is worth looking into tax-deferred accounts as well. Of course, if you have maxed out the amount you can deposit into a tax-deferred account, this account type would be your only option!

Tax Deferred

The US and UK both offer tax-deferred investment accounts of some form. The kind of tax relief that investors are given varies by country, but there is generally an amount of a person’s income that can be deposited tax-free in a given year.

Unlike a brokerage account, withdrawals from tax-deferred accounts are highly regulated. In most cases, money can’t be taken out until an investor reaches retirement age, or they find another tax-deferred account they would prefer to invest in (in the US, this is called ‘rolling over a 401k’).

Socially Responsible Investing (SRI)

Socially Responsible Investing isn’t new, but many RAs offer SRI funds. There are a few RAs that are dedicated to SRI, and don’t deal with anything but investments that fit into their SRI philosophy.

SRI seeks to help investors large and small invest in companies that could make a big difference to how the world works, but might not be as attractive to investors who are only interested in companies that can compete on the global markets for capital right now.

Investors who look into SRI funds will probably find that while they will be helping to create alternatives to today’s technological paradigm, the returns and volatility in an SRI portfolio may not be in-line with mainstream investments like a 10-year US government bond, or the S&P 500.

How Robo Advisors Build Investment Strategies

Not only do Robo Advisors have a number of financial tools to work with, but they also have numerous ways of building portfolios for their clients.

Part of the reason why RAs can offer their services at such low rates is the lack of direct human interaction between the portfolio manager and client.

This might seem impersonal to some people, it does keeps costs down and allows investors to have access to a level of financial insight that would be impossible otherwise.

Ready Made Portfolios

One of the most common forms of Robo Advisor out there uses the premade portfolio model. Basically, the RA will have a team of top-tier portfolio managers on staff, and they create portfolios that the clients are then assigned to based on their investment goals and risk tolerances.

This approach may not seem very ‘robo’, and it really isn’t. The automated aspect of this method is the assignment of portfolios to clients based on their goals, and the actual portfolio formation may or may not involve the use of advanced tools.

  • Pros A Robo Advisor that employs professional portfolio managers to create investment solution for their clients offers a lot of value for a small percentage of the funds invested. Clients are also given an impartial view of their investment goals as a part of the account opening process, in most cases. Having a professional review your investment goals (even indirectly) is a big plus that helps to strip the emotion from long-term investment planning.
  • Cons Using a RA that creates portfolios and then assigns them to clients isn’t really like a custom portfolio. Some commentators feel that RAs that offer a limited number of portfolios, and won’t allow much customization are just ‘pigeon holing’ clients into products.

Algos

Algorithmic trading is taking over the financial world. In concert with High Frequency Trading (HFT), some estimates put algo-driven trading volume at more than half of the daily volume on major exchanges like the New York Stock Exchange (NYSE).

The kind of algos that RAs will give you access to aren’t going to be designed to take advantage of millisecond advantages over other bot-funds, but they can help you and your RA to spot changing trends.

Clearly, an algorithmic investment approach isn’t in line with the ideas expounded by Mr. Malkiel. On the other hand, many hedge funds and investment banks are using algos to make major investment decisions.

The use of algos in the financial markets is new. It could be argued that allowing the use of trading algos at a global scale is a massive experiment, and we simply don’t know how it will affect the world of finance over the long-term. If you want to have an algo as an advisor, some RAs will help you gain exposure to a technology that has taken the global markets by storm.

  • Pros The fact that algorithmic trading models are available for retail investors is pretty cool. Some RAs that use algos have created market-beating returns for their clients, and the fees involved are minimal.
  • Cons Algorithmic trading is still a very new field, and it may not be as reliable as many think it is. Just because an RA has an algo they use, it doesn’t mean that is will be like the ones that are basically running global exchanges.

Automated Trading Algos

Automated trading algos (trading bots) fall a little bit outside of the normal definition of a Robo Advisor, but given the fact that they use algos to make trading calls, they are worth a mention.

To be sure, automated trading algos aren’t a holistic money management solution. Bots are created to trade over short and medium-term time frames and can take on substantial amounts of risk for their users.

While not a good one-stop-shop for money management, having a bot-run portfolio could make sense for younger people. Bots are used by many of the largest banks and hedge funds in the world and could be a good tool to use for creating higher returns.

Some bots are built to operate on a trading platform like MT4, and others will send you trading signals on a real-time basis. Using a bot to run your entire investment portfolio doesn’t seem like a responsible thing to do, but it could help to boost the returns from your risk assets.

  • Pros – Bots can be a great way to take advantage of trading opportunities in the marketplace that larger banks and speculators use to boost their gains. The fact that more than half of the volume on some of the major exchanges is bot-driven shows how popular they have become, and they get results.
  • Cons – Using trading bots is risky, and not a part of a holistic financial plan. Short term trading could cost you a lot of money, and there is nothing that says that the bot you use will generate the same kind of returns that hedge funds do.

Robo Advisor Fees and Minimum Investments

Nothing in life is free, and the services of a Robo Advisor are no exception. Depending on the RA you want to invest with you may need to have as much as £100,000 to open up an account. Don’t worry if you have way less money than that, there is an RA out there for just about anyone!

Minimum Investment

A minimum investment is the lowest amount of money needed to open an account with any given RA. Some will let you in with a very small amount of money, and many of the more popular RA will ask you for thousands of pounds.

The minimum investment that a RA requires may also vary for different account types. Accounts that are designed for retirement savings and have tax deferral may have a higher barrier to entry because the RA assumes that an investor will be ‘rolling over’ their existing savings into a new account.

Regardless of the minimum investment, it is probably the most important thing to know about any prospective RA. If you don’t have enough money to meet their minimum investment, you will have to keep saving!

Customization and Rebalancing

The vast majority of RA out there rely on ETFs, and many will allow you to customize your portfolios to some degree. There may or may not be costs associated with portfolio customization and rebalancing, which may be done automatically by whatever is managing your investments.

It is important to understand how your RA will apply fees to your account, and how you will be charged if an when rebalancing happens. Some RAs charge a flat yearly rate for the costs associated with ETFs, while others have more complex fee structures.

Tax Time!

The taxes that investors have to pay can be very complex.

Some countries offer investors ways to use investments that lost money to reduce their overall tax bill at the end of the year, which is referred to as ‘tax loss selling’. Many RA have integrated this into their platform and can help you to sell off losing positions in order to minimize taxes.

Most Robo Advisors also automatically record your tax liabilities from the investments they manage, so there isn’t a lot of hassle at the end of the year. Make sure you totally understand how tax reporting works with potential RAs, and how they would interface with your tax planning.

Regardless of the system that a RA has in place, it is probably going to be easier than dealing with managing the tax liability of a diverse portfolio on your own.

Robo Advisors are a Great Way to Invest

Robo Advisors are a natural evolution towards greater efficiency in the global investing landscape. Instead of having to deal with creating your own diversified portfolios, Robo Advisors offer you an incredible amount of research and functionality at ultra-low rates.

For younger people, Robo Advisors are probably the best way to enter the world of investing. Many people who wouldn’t have been able to access managed funds can buy into some Robo Advisors for as little as £1, and start investing their money.

Robo Advisors are also a good tool for established investors who want to have a managed portfolio without directly paying for a human investment manager. Some of the biggest names in investing, like Vanguard and Fidelity are offering automated investment services, which shows how popular Robo Advisors have become.

Remember, getting ahead financially comes from saving and investing some of your income every money. Robo Advisors make that a lot easier. Make sure to read about the fees and portfolio options that a Robo Advisor offers before you choose to give them your money, and have reasonable expectations about what kind of returns are possible!

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Nicholas Say grew up in Ann Arbor, Michigan with a father that would read him the Wall St. Journal along side of other bed-time fare. He has traveled extensively, and been lucky enough to study a changing global economy in person. Nicholas spent many years in the Southern Cone of South America, sometimes in the middle of the countryside where livestock starts its journey to all points of the globe. Today he is thoroughly bemused with the stance that Central Banks have taken in the wake of the 2008 meltdown. There is no telling what will come out of the global financial system next, but he is glad that he lives somewhere that gold can be bought and sold readily!


nicholas@moneycheck.com
https://www.linkedin.com/in/nicholas-say-3a419a85/

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