It's expected that by the early 2030s, 38% of U.S. jobs may be completely automated. While it may be a while before we see self-driving semi trucks and robot teachers in classrooms, the future is here when it comes to investing.
Robo-advisors are just what they sound like -- they automate the investing experience without the need for a human being. Using algorithms, these platforms can determine your comfort with risk (along with several other factors) and invest your funds accordingly.
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While robo-advisors are relatively new to the investing world, they're already taking the industry by storm. Launched in 2010, Betterment already has about $8.5 billion in assets under management. Wealthfront -- the other major competitor in the robo-advisor field -- has about $6 billion in assets under management. Even a few of the major traditional brokerages have launched their own robo-advisors to keep up with the trend.
Because robo-advisors have only been around for a few years (compared to traditional brokers that have been in existence for decades), many investors aren't so sure about them and whether they can be trusted with their savings. Before making any decisions, it's important to consider the strengths and weaknesses of using a robo-advisor.
Pro: Nobel Prize-winning theories
The algorithm behind how Betterment invests its users' funds is based on the economic theories of Eugene Fama and Robert Shiller, who won the Nobel Prize in economics in 2013.
Fama focused on finding ways to beat the market and earn the highest returns, while Shiller emphasized the fact that, because investors are human, emotions often get in the way of making good investing choices. Betterment used both of those concepts to create a platform that attempts to earn the highest returns possible while eliminating the human emotion aspect.
This is an advantage of robo-advisors, because robots can't feel worried, frustrated, or overly confident like human financial advisors. So they also aren't as vulnerable to make reckless (and costly) mistakes like humans are prone to do.
Little human involvement also leads to lower fees, so you get to keep more of what you earn. Betterment, for example, has no minimum balance with an annual fee of 0.25%, and Wealthfront waives fees for accounts with a balance under $10,000 (the annual fee then increases to 0.25% with balances over $10,000).
Con: No human touch
That being said, sometimes our human brains are better suited for financial advice. You can't tell a robot, for example, that you're considering expanding your family in the next five years or so and need to know how that will impact your investments.
There's also the issue of trust when handing your savings over to a robot. According to a study performed by Cerulli Associates and Phoenix Marketing International, only one-third of investors surveyed said that they felt comfortable using a completely digital service to handle their savings. The rest of them felt more at ease letting a human take the reins.
This is especially true during economic downturns when investors start to worry and need some extra hand holding. According to a survey by Capital One Investing, while 56% of people see the value in robo-advisors, 74% would prefer to talk to a human advisor when markets are volatile.
It's for this reason that many traditional brokerages are launching their own hybrid robo-advisors, which are essentially robo-advisors with the option to talk to a human advisor. These plans typically have higher fees than pure robo-advisors, but you do get the human touch that many investors crave.
Pro: Non-biased investments
Although many investors don't realize it, some financial advisors receive kickbacks from the mutual fund industry when they push certain funds onto their clients -- even if those funds aren't in the best interest of the client.
Many robo-advisors don't have any skin in the game, so to speak, so they're more likely to offer unbiased investment choices based on data alone.
They're also more heavily regulated by the SEC. Because robo-advisors come with a different set of challenges, the SEC recently released a new set of guidelines urging them to be more transparent about their business models and investing strategies. This also includes disclosures of any conflicts of interest with third parties in an attempt to avoid biased investments.
Bottom line: Which one is best for you?
Determining whether you should trust a robo-advisor with your savings comes down to a variety of factors. If you're just starting out in the investing world and don't have much to invest, a robo-advisor is a great option because of the low fees, low minimum account balance requirements, and "set it and forget it" investing strategies.
But robo-advisors can also be great for longtime investors who aren't happy with the service they're receiving from their financial advisors. Between commissions and fees, kickbacks and incentives, and biased investing, it's possible you could be earning more simply by switching to a robo-advisor and trusting the technology to do what it was built to do.
On the other hand, if you're a person who craves a human touch when discussing a topic as sensitive as your life savings, a robo-advisor may cause more stress and anxiety than it's worth. Sometimes it's easier to have someone to talk to about your financial situation to ease your worries, and although you can talk to your robo-advisor, it won't be talking back.
If you're still conflicted, a hybrid advisor may be a good middle-of-the-road option. No matter which option you choose, though, remember to do your research to find the best brokerage or robo-advisor for you.
