What are robo-advisors?
Robo-advisors are similar to financial advisors, in that they provide financial advice and investment management, but they are much less personal and barely offer any human interaction.
Investors complete an online survey and the robots then provide investment options on the client’s behalf, which can be accepted or rejected, using responses and algorithms, Investopedia said.
Robo-advisors optimise the perfect asset class weights in a portfolio in line with the client’s risk preference, which is identified via the survey.
They also focus on portfolio diversification, which is a typical approach to minimising risk.
Advantages of robo-advisors?
They are far cheaper than a traditional financial advisor, which underlines why they are particularly popular with younger investors.
Many investors do not want to think about their finances too often and with robo-advisors portfolios can be set to optimise preferences and then forgotten about, whilst also eradicating the concern of human misjudgement or error.
These programmed robots automatically rebalance portfolios so it does not drift away from your target asset allocation.
Anyone can utilise the services they provide compared with financial advisors, who only accept high net worth clients.
Disadvantages of robo-advisors?
There is little flexibility – you can accept or reject a plan but cannot customise it slightly to your needs.
People may panic and close their accounts if there is a big drop in their portfolio value, whereas financial advisors could provide reassurance and explain the reasons.
Why are we talking about this?
Goldman Sachs (NYSE:GS), the US investment bank, acquired NextCapital on Tuesday, which provides robo-advisors to corporate retirement plan participants.
This acquisition is among the top five asset management deals it has done, according to the Financial Times.
And will rival fellow investment banks JP Morgan and Morgan Stanley (NYSE:MS) which launched similar programmes last year and in 2017 respectively.
They are trying to capitalise on greater revenue streams by bulking up investment options for a wider range of customers.
JP Morgan and Morgan Stanley (NYSE:MS)’s automated investing both charge an annual fee of 0.35%.
Who is using robo-advisors?
They are typically aimed at younger investors, who normally have a lower net worth and have less experience and knowledge of investing.
More than 90% of 18 to 34-year-olds are open to switching financial advisers, Kearney, the global management consulting firm, said in 2016.
Many robo-advisors don’t set minimum financial requirements for their clients, so it opens investing up to everyone.
Millennials or those in their 30s or 40s, who are comfortable with technology and more likely to be happier with artificial intelligence dealing with their money.
Who is threatened by robo-advisors?
Investment banks Hargreaves Lansdown and AJ Bell PLC (LSE:AJB) have older clients, on average, who are less likely to convert to robo-advisers.
This may prevent them from acquiring robotic financial advisers as they simply don’t see a demand for them, which, in turn, may leave them flailing behind their competitors in the future.
Also, Goldman Sachs (NYSE:GS)’ new service targets older investors by providing retirement plans, so the minority of potential elderly clients with an interest in artificial intelligence controlling their finances may be tempted to leave for Goldman.
It also goes without saying, financial advisors are at risk as robo-advisors are cheaper, accept anyone and in most cases outperform humans.