Best Robo-Advisors of April 2020

It wasn't long ago that if you wanted to invest, you needed to choose your investments yourself or hire a financial professional to do it on your behalf. Now there's a third option: the robo-advisor. As with any investment method, there's quite a bit you should learn about robo-advisors before you start. With that in mind, let's take a deeper look at some of the most important things investors should know.

Throughout most of modern history, if you needed investment guidance, you had to hire a financial advisor. There are certainly benefits to having the advice of a seasoned professional, but there’s one big drawback -- an investment advisor can be expensive.

Thanks to technological advances, the concept of the robo-advisor has created another viable option. In a nutshell, a robo-advisor automates key components of investment planning. A robo-advisor can help you assess your risk tolerance, determine your investment time horizon and goals, and can allocate your portfolio to maximize return potential without taking too much risk.

Robo-advisors are offered by financial companies from Silicon Valley startups to the major online stock brokers. And while the general concept of a robo-advisor is the same (low-cost investment planning), there’s quite a bit of variety in costs and features.

Robo-advisors are known for having lower fees than their human counterparts, but it’s still important to know how much robo-advisors cost. Unfortunately, there’s no single answer to this question. The costs vary, and cheaper isn’t always better.

There are two primary types of fee for most robo-advisors.

• Management fee: This is a fee for the robo-advisor’s services. It pays for allocating your investment capital and for other features and services (such as access to a financial planner) that your robo-advisor might offer. Management fees are expressed as a percentage of your assets on an annual basis, so a 0.25% management fee means that you’ll pay $2.50 per year for every $1,000 invested. Not all robo-advisors charge a management fee, as you’ll see when looking through our picks of the best robo-advisors, but they typically range from 0% to 0.35%.
• Investment expenses: When a robo-advisor invests your money, it does so by creating a portfolio of funds (usually exchange-traded funds, or ETFs). Each of these charges its own fee to cover operations, the “expense ratio.” Like management fees, expense ratios are expressed as an annualized percentage of assets under management. Expense ratios can vary dramatically -- fees on ETFs used by top robo-advisors have expense ratios ranging from 0.03% to 0.90%, although the vast majority are on the lower end of this spectrum.

It’s important to consider the combination of these fee types, often collectively referred to as the "all-in" cost of a robo-advisor. All-in costs typically range from 0.03% to 0.50%, but even at the higher end, this compares favorably to hiring a human financial advisor. On average, financial advisors charge about 1% of invested assets, and that’s in addition to the fees charged by the funds they choose for your portfolio.

Why are investment fees such a big deal?

The fees discussed above may sound small, but don’t underestimate the difference they make over the long run. To illustrate this, let’s say that you have $5,000 to invest and that you plan to add another $5,000 every year for the next 30 years. We’ll say that your portfolio achieves annual returns of 8% on average. Here’s how you would fare based on different all-in management fees:

Here’s the point: On a shorter-term basis, the difference in results is quite small. However, over long periods of time, seemingly small differences in fees make a big difference. After 30 years, our hypothetical investor would have earned nearly $69,000 more by using a low-cost robo-advisor with a 0.25% all-in fee rather than a typical human financial planner with a 1% management fee.

There are some features that almost all robo-advisors offer, and others that aren’t quite as common. With that in mind, here’s a list of what you should pay attention to as you research robo-advisors to find the best fit for you:

Low fees

Robo-advisors are generally far cheaper than their human counterparts, but they aren’t all equally cheap. There’s quite a bit of variation in management fees, as well as the fees charged by the underlying investment funds.

A quick look at our best robo-advisor picks shows management fees ranging from nothing at all to 0.35%. And some have multiple tiers, such as a no-frills version and a premium product that costs more. Expenses of the underlying investment funds can vary dramatically as well.

With that in mind, it’s smart to look at fees as just one piece of the puzzle. If a certain more expensive robo-advisor offers more of the features that matter most to you, it can still be a good value for you.

Minimum deposit requirements

Obviously, this isn’t much of an issue if you have tens of thousands of dollars or more to invest, but it can be a major limiting factor for investors who are just starting.

Most of our favorite robo-advisors don’t have formal minimum initial deposits, and some will even let you get started for $1. On the other hand, there are some with minimum investments in the thousands, so keep this in mind as you conduct your search.

Automatic rebalancing

When you set up an investment portfolio through a robo-advisor, your initial investment allocations will be aligned with your risk tolerance and investment goals. For a simplified example, your robo-advisor might determine that your ideal allocation is 70% invested in stocks and 30% in bonds.

The problem is that over time, this won’t stay the same all by itself. If the stock market has a particularly strong year, for example, you could find that your portfolio is now 80% stocks. Automatic rebalancing solves this problem by periodically reviewing your portfolio and making adjustments to maintain your desired risk/reward profile.

This has become a pretty standard feature among robo-advisors, but it’s still worth mentioning. The frequency of rebalancing can vary between firms.

Tax-loss harvesting

Some robo-advisors incorporate tax efficiency strategies into their portfolios, and the most important to know about is tax-loss harvesting.

Here’s the short version of how tax-loss harvesting works with a robo-advisor: Let’s say that your robo-advisor constructed your portfolio using five investment funds. We’ll also say that over the next few months, four of the funds perform very well, and one declines in value. In the course of rebalancing, your robo-advisor will likely sell some of the high-performing funds.

This can create a taxable capital gain. Some robo-advisors actively combat this by strategically selling investments that have declined in value to offset your taxable gains, and then re-investing that capital in a tax-efficient manner.

This is likely to be more important if you have a large investment account, or you’re otherwise in a high tax bracket. If taxes are a top concern, be sure to confirm whether your robo-advisor offers tax-loss harvesting.

Access to human financial advisors

By definition, the purpose of a robo-advisor is to take the human element mostly out of the equation. And most of what a human investment advisor can do (portfolio allocation, rebalancing, etc.) can be automated rather easily. Not to mention that finding a financial advisor can be a hassle.

However, there are some instances where it can be valuable to have access to a human financial advisor as well. For example, if you’re planning to buy a home in a few years or you want to start saving for your kids’ college, a financial advisor can point you in the right direction.

Some robo-advisors follow a sort of hybrid business model, with access to human financial advisors for customers. A few provide unlimited access for all clients, others provide some access, and others let you pay a bit more to access human advisors.

Customer support

If you work during the day, a customer service line that’s only available during "banker’s hours" might not be a great fit for you. If you run into a technical problem -- say, you’re having difficulty making a deposit or navigating the advisor’s platform -- it’s nice to be able to pick up the phone and talk to someone who can help. Customer support hours (and quality) vary significantly in the robo-advisor business, so be sure to check this information for any prospective robo-advisor.

Unique features that appeal to you

It’s not practical to list every possible feature a robo-advisor could offer, or that might matter to you in particular. But it’s worth noting that some of our favorite robo-advisors offer features that go beyond the standard list we’ve discussed. To name a few:

• Robo-advisors offered by major brokerage firms or banks often integrate with other accounts at the company. This can allow you to view your balances in one place, and can facilitate easy transfers between accounts.
• Some robo-advisors offer discounts on other products and services from the same company, such as lower interest rates on loans.
• If you want to invest through a combination of a robo-advisor and do-it-yourself investing, there are several robo-advisors that allow you to do both through the same platform.
• Finally, some robo-advisors offer unique services. Some that we’ve seen include career counseling services, income planning services for retirees, and in-person customer events. Features like these aren’t likely to appeal to everyone, but can be very valuable to certain people.

Robo-advisors are most appropriate for investors who fit into one or more of the following groups:

• Newer investors: Investing for beginners can seem intimidating. If you don’t have a ton of money to invest, and/or you don’t have the level of knowledge to be comfortable making your own investment decisions, a robo-advisor can help you get started with a custom-designed portfolio and minimal capital.
• Hands-off investors: Many people who know the basics simply don’t want to spend their time researching and managing investments. Robo-advisors can allow you to put your investments on auto-pilot, and at a cheaper cost than hiring an advisor.
• Tax concerns: If you’re investing through an IRA or some other type of tax-advantaged account, you’re probably not worried about taxes. The same can be said if you’re putting just a small amount of money to work, or if you’re in a low tax bracket. On the other hand, if you’re investing a large amount of money or you have a high income, the tax optimization strategies offered by some robo-advisors can easily pay for the management fees all by themselves.
• You don’t like fees: As we’ve seen, lower investment fees can make a big difference over time. If you’re concerned with paying too much for investment advice, a robo-advisor could be the solution for you.