Are ‘Robo-Advisors’ Better than Financial Planners?
Dear Emmy, what exactly is a ‘robo-advisor’ and are they any good?
‘Robo-advisors’ are online software companies that provide investment portfolio creation and maintenance services. Customers first complete an objectives and risk-tolerance questionnaire, then a proprietary algorithm uses that information to construct an investment strategy. The software is designed by security-industry professionals, but each individual financial decision is automated and follows pre-programmed portfolio models.
For this reason, many in the financial industry consider calling this technology an ‘advisor’ a bit misleading. Perhaps a more appropriate term for this software should be ‘robo-decider.’ Professional human advisors also use your stated objectives to devise a financial roadmap. They research and present several investment options. However, after discussing the rationale behind the proposals, it is the client who decides the course of action – not the advisor.
Robo-advisors can benefit someone who doesn’t wish to retain a dedicated financial planner. They’re useful for people who have a ‘do-it-yourself’ attitude but don’t actually want to select investments, participate in rebalancing or make other decisions themselves.
Robo-advisors have their advantages. They generally offer lower minimum investment thresholds and the cost of accessing the software is usually less than hiring a professional person. For younger investors who are beginning to build their retirement nest-egg and are saving for a long-term goal, using a robo-advisor can be a straightforward and cost-efficient way to get started. However, algorithms won’t always account for important changes in your family life and work world, or recognize if your financial priorities shift.
It may be convenient to allow a robo-advisor to manage your investment portfolio through a strong market. But during a period of volatility or a dramatic downturn, many investors will find reassurance in being able to pick up the phone and speak with their personal advisor. The greatest financial setbacks are often made by emotional over-reactions to market volatility. Flesh and blood advisors help make sense of the moment and can lay out a versatile plan for going forward. Few robo-advisors offer live assistance. Most interact with you almost exclusively through the web.
As retirement nears and the accumulation phase makes way for the distribution phase, every investment portfolio will require a higher degree of oversight. While there are sound reasons to construct portfolios online, the potential risks from maintaining a narrow perspective increases as new variables arise. Robo-advisors generally lack the capacity to provide advice on taxes, insurance or estate planning – not to mention budgeting and cash flow management – all critical components of a comprehensive financial plan.
People who need to coordinate retirement savings accounts with other individual investments, or who need a customized approach for inheritance and intergenerational tax planning may find significant shortcomings in a software-based solution.
In short, a robo-advisor is not a financial planner. As a consumer, you must determine the extent of service you require. With any financial investment, it is important to research robo-advisors and compare the fees and services before making a decision. As always, choose your service provider wisely.
Securities and Advisory Services offered through National Planning Corp. (NPC), member FINRA/SIPC, a Registered Investment Advisor. EH Financial Group, Inc. and NPC are separate and unrelated companies. The opinions voiced are for general information only.