Too many people have money stuck in low-interest savings accounts that they'd be better off investing. But a new product that bills itself as an alternative to savings accounts doesn't offer savers the best way to start investing, and the fees it charges are higher than many investors ought to pay.
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Making investing simple
Betterment is a new service that attempts to make investing as simple as possible for everyone. By linking your existing bank account to a Betterment account, you can move money back and forth between your bank and the service. Betterment will also guide you through the process of choosing an asset allocation for your account, dividing the money you keep there between stock and bond ETFs.
On the surface, that sounds a lot like what a traditional broker would offer to customers. Nearly all discount brokers allow customers to establish electronic funds transfers between external bank accounts and their brokerage accounts, and they also allow their customers to buy shares of stocks and ETFs. The step that Betterment saves you, however, is taking the money that you want to invest and actually making trades; Betterment handles all of that for you.
Moreover, Betterment has a different way of charging for its services than most brokers. Rather than charging commissions, Betterment simply takes a 0.9% annual management fee from your assets.
It's not a savings account
As a concept, Betterment makes plenty of sense. Alas, I have problems with its execution.
In particular, Betterment has tried to bill itself as a "replacement for a savings account." It points out that when savers keep money with their banks, the banks profit by lending that money out at higher rates, but savers don't reap nearly the benefits that the bank does. That's all certainly true, but it misses the point. A mix of stock and bond ETFs may well help savers create a better investing strategy than keeping all their money in a bank account. However, that mix can't "replace" the role that a savings account plays.
Further adding to the confusion, Betterment says that its service is "safer" than a conventional savings account, pointing to long-term results of a stock-bond portfolio mix. Yet because Betterment implies that it essentially is a savings account, the inexperienced investors toward whom the service is aimed may well be surprised to learn that their savings-replacement can actually lose money -- even though the service's website includes the standard disclosures about risk of loss.
Why pay 0.9%?
Meanwhile, there's nothing all that difficult about the investments that Betterment uses; they're ETFs, including the Dow-tracking Diamonds Trust (NYSE: DIA), the large-cap value fund iShares S&P 500 Value Index (NYSE: IVE), the small-cap ETF iShares Russell 2000 Value Index (NYSE: IWN), and the broad-market Vanguard Total Stock Market ETF (NYSE: VTI). Any of these would make a reasonable component of an ETF investor's stock allocation, since they cover both large-cap and small-cap stocks. It'd be nice to see a chance for investors to get some foreign stock exposure, though, which is missing from this mix.
On the bond side, the service offers a single investment: iShares Barclays TIPS Bond (NYSE: TIP). That's also a useful fund, although it's unfortunate that the service doesn't offer at least one ETF with traditional rather than inflation-indexed bonds in its portfolio.
In fact, with the exception of the Diamonds ETF, all of those funds are available commission-free at either Fidelity or Vanguard. So in that light, you're paying $90 on a $10,000 every year -- or $900 on a $100,000 account -- to have Betterment buy those ETFs for you.
A good way to start
That said, if you're just getting started and you don't have a huge amount to invest, the Betterment service may well be a bargain. A fee of 0.9% on $1,000 is just $9 a year, which is a small price to pay for all the time-saving things that Betterment does for you.
In that light, Betterment may be a reasonable way to introduce people to investing. But you should see it as a stepping stone, rather than a permanent place for your money. As you grow more experienced and you have more money to invest, setting up your own brokerage account will give you far broader options, while also saving you a bundle in fees.
