Investing with a robo-advisor

Digital portfolio management and human advice

Through the power of automation and the internet, a new method of investment management has been emerged – robo-advice. Designed to deliver lower costs and more convenience for investors, it’s growing in popularity as an investment tool.

Yes, while not exactly robots, today’s coupling of deep data analytics and artificial intelligence (AI) has enabled development of the sophisticated algorithms that power robo-advice investing platforms.ᶲ Arguably still in the early adopter phase, some financial experts are predicting the amount of money invested globally through robo-advisors to surpass $8 trillion by 2022.

Robo-advice is attracting a lot of attention, but it isn’t be right for everyone. Before committing your savings it’s essential to figure out where it fits – and where it doesn’t.

Robo-advice explained

While no two robo-advisor tools are the same, what they share is a heavy dependence on technology rather than human intervention to actively manage client portfolios.

Along the wealth management spectrum, robo-advisors fall somewhere between traditional full-service (human) advisors and online brokerages, appealing to those who are comfortable doing business online, yet want to delegate the active handling of their investments to another individual or technology platform.

Robo-advice emerged in the wake of the 2008 financial crisis, spearheaded by pure-play robo-advisory firms (fin techs) who proved out the concept. Now mainstream financial service firms are driving that growth, offering robo-advice to their clients as an alternative way to invest.

Robo-advisors do their job by first having you, as the client, complete an online questionnaire to identify your specific investing needs. This includes your goals, time horizon, and risk tolerance. They then select an investment portfolio model for your savings that best matches your profile.

Model portfolios, normally built using exchange-traded funds (ETFs), range from conservative to aggressive, with varying mixes of stocks, bonds, and cash. Depending on the robo-advisor platform you’re using, your investment choices could extend beyond core equity and fixed income offerings to include ETFs in sectors such as emerging markets, dividend-paying stocks, real estate, or high-yield bonds.

The process doesn’t stop once your dollars are invested. Using automated systems and algorithms, the robo-advisor monitors changes in financial markets and the value of your portfolio, rebalancing when necessary to restore your target asset allocation. They may even offer specialized services like tax-loss harvesting. You can login to your account at any time to track your progress, add money or review your portfolio.

Despite the name, robo-advice isn’t necessarily devoid of human involvement. Most firms provide text, email, or phone support. Others have gone a step further and adopted a “hybrid” model, adding human advisors to bolster their automated platforms and provide the financial planning support that helps investors stay on track.

Weighing the pros and cons

There are sound reasons why robo-advice is capturing investor dollars. Because these tools rely on low-fee ETFs to build portfolios, robo-advisors promote themselves as a less expensive alternative, aiming to produce savings for investors in the form of lower fees. The self-serve model for opening and maintaining an account naturally appeals to the tech-savvy or time-starved. Yet unlike an online trading brokerage, which also touts convenience and lower costs, a robo-advisor puts automation and artificial intelligence to work around the clock to manage clients’ money.

Robo advocates argue that since algorithms won’t get emotional when financial markets become euphoric or fearful, robo-advice can do a better job of preventing the average investor from engaging in costly behaviours like excessive trading, chasing past performance or selling out at a market bottom. Still, there’s nothing stopping someone from shutting down their robo-account and pulling their money entirely when things get rocky. It’s just one example of why robo-advice isn’t always the best option.

Selecting from a robo-advisor’s pre-packaged list of investments may be easy, but that doesn’t mean it represents the best value in the long run, particularly if you don’t have the flexibility and choice you need to properly pursue your saving goals. There’s also the risk of switching your current holdings into a robo-advisor’s suite of investments only to be stuck with a hefty capital gains tax bill which wipes out any cost savings for years to come.

Most importantly, your financial life likely involves much more than simply investing. Everything from tax and estate planning to debt management and insurance could be on the table. Using robo-advice to build an investment portfolio has its benefits, but its narrow scope might mean you’ll miss opportunities or fail to recognize risks which affect your broader finances.

That’s where a full-service financial advisor has the advantage. Because you and your advisor build a rapport over time in-depth discussions are possible, helping you to better tackle subjects like whether it’s smarter to add to a TFSA or RRSP, or how to best finance a vacation home or start a business.

A full-service advisor can take a holistic view, tying different aspects of your financial life together. At the same time, they’re able to pull in other professionals like accountants and lawyers to develop a coordinated plan, ensuring your complete financial needs are looked after. And, whether it’s marriage, the birth of a child, an inheritance or retirement, having an expert in your corner who’s familiar with your history and circumstances can help you navigate life’s transitions.

What’s right for you?

Should you entrust your savings to robo-advice or would you be best served by partnering with a full-service advisor?

Regardless of the kind of relationship you’re considering, first understand the basics of each alternative. Ask about fees, minimum investment requirements and the range of account types available. Are registered portfolios constructed differently than taxable ones? What guidelines govern rebalancing? How is accumulated capital drawn down, say at retirement?

But how you answer four key questions might do the most to help you make up your mind.

1. How complex are your finances?

Robo-advice can be a great fit if you’re just starting out and your finances aren’t complicated – you have a mortgage and have only recently begun contributing to a TFSA, for example. However, once you’re further along in life with a growing family, a business, need serious tax planning or are preparing for retirement, robo-advice may fall short.

The bottom line is the more complex your finances, the more you’re likely to benefit from teaming up with a full-service advisor who’s able to not only fine-tune your portfolio, but also design a comprehensive financial plan to help you achieve all your objectives.

2. Is personal contact important to you?

If you aren’t the type who requires personal contact with an advisor and are happy to interact with your investments online, robo-advice could fit the bill. That said, robo-advisors can’t replicate personalized wealth management from a full-service advisor who gets to know your situation and has primary responsibility for managing your money. What’s more, there are times, like during a market downturn, when having a strong personal connection may do more to help you tune out the noise, and keep you focused on your investment plan and long-term goals.

3. Are you comfortable with machine-led money management?

When you choose robo-advice it means you’re okay with a hands-off approach where key activities like creating a portfolio and rebalancing your investments are turned over to computer algorithms. A traditional advisor is a better option if you want the flexibility to customize the way you choose and manage your investments.

4. How much product choice do you want, or need?

Robo-advisors tend to favour ETFs that passively track market indexes. That won’t sit well with you if you prefer active management. Plus, once your needs are more sophisticated, a robo-advisor’s limited product selection and cookie-cutter approach matching you to an investment portfolio might not be as beneficial as receiving a tailored solution from a full-service advisor.

Explore your options

There are situations when opting for robo-advice makes a lot of sense. But that doesn’t mean it’s always the best choice, especially if, like most people, you’ll benefit from comprehensive advice.

At BlueShore Financial we’ll work with to you explore your options, so you have the right partner to help you reach for your goals, today, and tomorrow.