Hey everyone. It’s Finance Fridays again and the last few weeks I’ve talked about Stock Market FOMO and President Elect Trump and the Stock Market. However, today I’ve decided to talk about Roboadvisors. If you’ve read my blog, then you already know how I feel about Financial Advisors, “The Good Ones”, and Finding One.
I’ve brought up Roboadvisors multiple times in prior posts, but I’ve decided to talk about them in some depth here today.
Stock Photo from: Pexels.
***EDIT –> After finishing this post, I realized it got really long. So pour some coffee, kick up your feet and prepare for a little reading.
First things first. I would advise everyone to learn how to manage their own investments. However, there are those who just don’t want to, and well… I understand. If that is the case, then a Roboadvisor is a consideration, or perhaps a better option than a traditional financial advisor.
But please heed my warning:
Not all Roboadvisors are made equal.
For the most part, the “Roboadvisor” means your account is automatically handled by a “robot”. In general, most roboadvisors use passively managed index funds to manage your account. This, of course, is good because if you read my The Philosophy post or backtrack through Finance Fridays Roadmap, you’d know that I believe in the power of indexing.
The big players in this passively managed index funds roboadvisor space are: Betterment and Wealthfront. Acorns is another new comer to this space. Basically, they manage your account for you and take a % fee. Now, this sounds suspiciously like AUM, which I advise heavily against paying. However, a traditional AUM is 1-2% and these “roboadvisors” are all less than that. Of course, doing it yourself is still the cheapest option. However, like I said, some don’t want to do that, and there are a few little perks to having a roboadvisor. I will discuss these 3 in more detail later.
Are there any other models?
For completeness sake, there are also hybrid models which do a combination of this passively managed index funds, but also provide access to an actual human financial advisor.
Wait what? Vanguard has a Roboadvisor service? Don’t you love Vanguard? Shouldn’t I just use them?
Whoa there. Hold your horses —- Yes they do. — Yes I do. — No, you shouldn’t… at least not as a knee jerk reaction.
I like Vanguard’s low cost passively managed index funds. However, Vanguard is just a company like any other. While Vanguard is mostly synonymous with being a Boglehead and The Philosophy, they are not one and the same. Vanguard offers its own line of actively managed funds, which, of course, I discourage using.
These hybrid services, in general, cost more than their completely automated counterparts at 0.89% for Personal Capital and 0.50% for FutureAdvisor. However, unsurprisingly, the Vanguard option somehow manages to stay in-line with the completely automated options, at a low 0.30%. However, Vanguard also requires a minimum of $50,000… so yea.
Now to me, 0.89% and 0.50% are simply too high to even consider. However, if you recognize that a traditional financial advisor’s AUM fee is in the realm of 1-2%, then yes it is still lower, while still providing you access to a human to talk to once in awhile. These might still be a reasonable option for those who are just starting out. However, I fear that people will start with using these accounts and just never pull the money out with your compound interest getting whittled down by 0.89% or 0.50% a year.
Vanguard’s 0.30% is not horrible, but still less than the 0% of you doing it yourself.
So then… why would I need a Roboadvisor?
Ok, so now I’ve done by best to convince you that you don’t need a Roboadvisor. I mean, you’ve hopefully been reading my blog for awhile and you can Talk the Talk, Allocate your Assets, Approximate a Portfolio, etc. So now let’s talk about some advantages of a Roboadvisor:
The single biggest advantage of a Roboadvisor is that you’ve take yourself out of the equation.
“WE HAVE MET THE ENEMY AND HE IS US.” – POGO (Walt Kelly)
“Perhaps more than any other words written by Kelly, it perfectly sums up his attitude towards the foibles of mankind and the nature of the human condition.”
However, these words ring true here as well. It’s very difficult to do nothing. I think this especially true for doctors.
We think we can change things.
If you can’t trust yourself to do nothing then a Roboadvisor isn’t a bad option. They are “cheaper” than a traditional financial advisor and will use passive management and index funds, like I advise.
Ok, what other advantages are there?
Betterment and Wealthfront auto-rebalance for you. This is something you would normally need to do from time to time to make sure your asset allocation isn’t getting thrown off. You want to make sure you keep your 80/20 split or 70/30 split or whatever depending on your risk tolerance and where you are in your career. Having this automated takes you out of the equation, which is nice.
Betterment and Wealthfront both provide Tax Loss Harvesting. Basically, this is a way to offset some of the taxes you may need to pay because of any losses you take on your taxable accounts. It’s easier to simply show an example, as Bogleheads did:
“Suppose that you had invested $10,000 into a mutual fund in a taxable account and that with the steep decline in 2008, your holdings are now worth only $6,000. Since you plan to continue holding that fund, you might be inclined to ignore the losses and wait for the fund to eventually recover. Instead, using tax loss harvesting, you’d sell the fund, and then buy it back 31 days later. In the meantime, you can either hold the cash in a money market fund, or invest it in a similar but not identical fund. This has the effect of booking a $4,000 capital loss, while returning you to your original position 31 days later.”
Basically, you’ve “accepted your loss” and this has some tax advantages which are outside the scope of this article. For simplicity, you pay capital gains tax if your gains are above your losses. If you are able to “save your losses”, then you would effectively pay less capital gains taxes than if you “didn’t save them”. However, you still have to pay the tax eventually, it just defers the taxes you pay to a later date. But, $1 in the future is not the same as $1 now… and tax-deferred is (usually) tax-advantageous.
Wait… couldn’t I do that myself?
Yes, you could. However, it would require a significant amount of time on your part in order to harvest efficiently. In this instance, it is automated for you, and performed daily.
Wealthfront and Betterment sound very similar, are there any other distinguishing features?
Wealthfront has something called “Direct Indexing“.
If your account has > $100,000 in it. So instead of buying an “index fund”, they instead buy individual stocks in the allocation of their index funds. Supposedly this allows for better Tax Loss Harvesting.
“Combined with our Daily Tax-Loss Harvesting service, we believe this could add as much as 2.03% to your annual investment performance.” – Wealthfront
For those who want to make their heads spin, you can go ahead and read their White Paper.
Betterment has something called their RetireGuide.
This is like most other retirement planners that you say, but from what I can tell, is very robust. For example, it includes cost-of-living changes based on where you live and where you plan to retire to, which I discussed in my Best Bang for your Buck Retirement Locations post.
If I used Betterment, I would try my best to utilize this tool to its fullest extent. For those interested, they have a very in-depth write-up about it here.
What stocks do Wealthfront and Betterment use?
Unsurprisingly, they both use mostly Vanguard Indexes for their Stocks.
However, while Betterment uses the normal US Bonds (and some others), Wealthfront does not use US Bonds, instead opting for TIPS. Additionally, Wealthfront also utilizes REITS as well. I’ve talked about TIPS and REITs before.
Ok, so who wins?
Well, if I was going to use a Roboadvisor (Spoilers: I’m not), the most important factor to me would be what the cost is.
Wealthfront requires a minimum deposit of $500. Betterment has no minimum. To me, and for most of you, this shouldn’t matter.
At < $10,000. Wealthfront has no fee up to $10k. Betterment requires either $3/month if under $10k or auto deposit of $100/month and charges 0.35%.
At > $10,000 but < $100,000 — Wealthfront is 0.25% and Betterment is 0.25%
At > $100,000 — Wealthfront is still 0.25% and Betterment is 0.15%
To me, since I don’t think Wealthfront and Betterment’s ideals are all that different, I would just go with the lower cost for your account. Essentially, if you have < $100,000 keep it in Wealthfront, and if you eventually get more than that, go ahead and move over to Betterment.
The only reason to stay with Wealthfront over $100,000 would be if you believe in their Direct Indexing. That would not be worth it to me, but it may be worth it to some.
Wait, what about Vanguard?
If you like the idea of a hybrid advisor, then I think that the Vanguard Personal Advisor Services are a consideration. This is certainly better than the alternative of a traditional Financial Advisor taking 1-2%. However, it is 0.30% compared to 0.25% of Betterment and Wealthfront at the $50,000-$99,999 marks, because Vanguard has a high minimum of $50,000. Of course, Betterment still wins out above the $100,000 level with it’s 0.15% rate.
You mentioned Acorns before… what should I know about them?
They’re a new player in this market. Their feature is that they “Round-up” on your purchases to the nearest dollar. So if something costs $2.53, it rounds up to $3, taking that 47 cent difference and investing it for you. It’s kind of like in Office Space or Superman III when they round down the fractions of cent into a separate account. This is kind of cool for those who just started saving to see a slight uptake in their savings over the course of time. It may even motivate you to save more.
I would think of it more like learning how to roll your snowball down a hill from just a few snowflakes… which motivates you to start picking up and forming your own snowballs.
That said, Acorns’s fee is 0.25% (for >$5000), so for those of you over $100k, Betterment is still the better option at that level.
Roboadvisors are a reasonable alternative to the traditional AUM Financial Advisors.
Betterment and Wealthfront are the big players here.
Tax Loss Harvesting may help offset some of the fee you will be paying, but I doubt it will subsidize the fee itself.
In my opinion, for <$100k, go Wealthfront — for > $100k go Betterment.
Vanguard Personal Advisor Services are a consideration for those who want a Roboadvisor, but still want the ability to talk to a human sometimes.
However…. overall, it’s still better to just do it yourself... unless you can’t trust yourself.
What do you guys think? Am I too hard on Roboadvisors? Are they better than I think?
Or do you think that Roboadvisors should not be used at all?
As always, Questions, Comments and Suggestions are welcome.
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DISCLOSURE: I have no affiliation with any company listed here at the time of this post. If this changes, I will update it here with the date and time.