Intro: How Robo Investing & Algorithmic Trading is Disrupting Wall Street
Technology is consistently making great gains in every sector, perhaps none more than where your finances are concerned. Robo investing, a relatively new form of algorithmic trading, is providing new and more easily accessible ways for individual investors to make their entry into the stock market, mutual funds, and wealth management.
These so-called robo-advisors take away the personal face-to-face interactions that dominated the wealth management industry and instead focus purely on the science behind making investments with algorithmic trading.
With the rise of robo investing, consumers have plenty of questions about how these types of services could benefit them.
What is robo investing, exactly? How do you go about finding a well-qualified robo-advisor? What are the benefits of algorithmic trading?
Here at AdvisoryHQ, we take pride in answering the key questions that are on every consumer’s mind to help you make savvier financial investments. Read on to find out what is so appealing about robo-advisors and the rise of the robo-investing industry.
What Is Robo Investing?
When you choose to go through a robo-advisor for your wealth management services, you are essentially cutting out the middle man. Financial advisors and financial planners have long been the primary way that the average individual could receive advice regarding their investment choices. Robo-advisors use identical software programs to financial planning firms but instead of offering personal advice, they make suggestions for investments based off of algorithm trading.
Robo-advisors have replaced these individuals in some cases, particularly with the younger generation that is far more comfortable working online. Wells Fargo’s recent study found that individuals under the age of fifty are more comfortable using online services to manage their portfolio (69 percent), while those over this age threshold tend to be more comfortable using in-person services rather than robo-advisors (59 percent).
Robo investing platforms typically come with a number of features that draw clients in, including automatic rebalancing and tax-loss harvesting. The structure of most algorithmic trading and robo investing firms is relatively simple: purchase inexpensive exchange-traded funds (also known as ETFs), and then continuously rebalance your investments over the course of time. Robo investing is said to “take emotion out of investing” to allow larger returns through algorithmic trading.
Beyond that, many robo investing services offer better benefits than a financial advisor can offer.
In most instances, a robo-advisor charges significantly lower fees because of the reduced overhead of sacrificing personal attention to each individual account. Without adding the salaries of a team of financial advisors, robo-advisors can offer more features and ease of access at a fraction of the price of traditional financial planning and wealth management services.
According to TIME magazine, robo investing and algorithmic trading is on the rise. A new survey from Wells Fargo announced that less than half (45 percent) of investors with portfolios totaling $10,000 or more had heard of robo investing. Only 5 percent have taken advantage of the services that robo-advisors can offer, reaching only $53 billion to assets under management at the end of the previous year.
However, that number is expected to rise to a whopping $285 billion by the end of the year 2016.
What Draws People to Robo Investing?
What is the appeal of robo investing for most individuals? While some individuals are naturally drawn to a more technological method for managing their investments, others are still watching skeptically from the sidelines. Robo-advisors are on the rise and so is the prevalence of robo investing. What is it that is drawing people into this impersonal algorithmic trading option?
Besides the fact that the algorithmic trading is based off of a Nobel-prize winning formula, the ability to customize your investment strategy through a robo-advisor is remarkable. The Wall Street Journal points out that behavioral finance experts have assisted in the development of questionnaires to help robo-advisors determine your needs and risk tolerances.
The other biggest draw to robo investing is the consistent rebalancing to your portfolio. A traditional financial advisor can offer similar services, but not with the same regularity that a robo-advisor can. When your funds are part of a robo investing platform that promises rebalancing and their sell price dips too low, they will be sold for a capital loss and automatically replaced with similar investments.
Image Source: Investopedia
While we touched on the lower fees offered by robo-advisors in the previous section, it’s important to note exactly how significant the fee difference could be. Robo-advisors often charge between 0.25 and 1 percent for investments on robo investing sites. By comparison, human financial advisors typically charge between 1 and 2 percent. What’s more, some financial advisors receive additional compensation for peddling particular funds or investment strategies. A robo-advisor does not have the same incentive to sell you certain investments or holdings.
The advantages of robo investing abound, but some are still hung up on the negatives. Are there specific disadvantages you should be aware of when it comes to robo investing?
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Why Not Use Robo Investing?
If robo investing is supposed to be the way of the future, why are some people still delaying finding their own robo-advisor? What are the disadvantages to a robo investing strategy?
The primary disadvantage for robo investing is the lack of personal service that financial planners can offer. Robo-advisors can help you to make decisions with your holdings and investments, but they aren’t often used for long-term wealth management aimed at meeting particular goals. Robo investing is not a terribly personalized service, meaning that it typically steers clear of topics such as taxes and retirement or estate planning. A financial advisor, on the other hand, can address all of these unique situations.
That being said, several of the robo investing platforms will also offer access to their team of financial advisors. If you know you’re the type of person who likes to ask a lot of questions, especially when it comes to your investments, you likely want to choose one of the robo-advisors that comes with a financial advisory team as well. Vanguard and Personal Capital both provide access to a team of dedicated human professionals as well as their robo-advisor team.
For individuals who still prefer a more personalized service, robo investing might not be the way to go. It can definitely be beneficial for investors who want a relatively no-nonsense approach to an uncomplicated investment strategy. However, if you prefer to hear a human voice on the phone or to make an appointment at a brick and mortar location, a robo-advisor will not satisfy your needs.
Is Robo Investing for You?
Robo investing might not be the best path for everyone to take when it comes to managing their wealth. When would enlisting the help of a robo-advisor be beneficial? How can you tell if robo investing is the right fit for your own financial planning needs? Robo investing might be a good option if you:
- Have a do-it-yourself mindset: If you’re accustomed to doing your own research and have no problem with taking the same approach to your finances, a robo-advisor might be a good fit for you. Do you feel like you can successfully take responsibility for monitoring your robo-advisor and keeping an eye on its algorithmic trading? If this describes you, robo-advisors will likely be a great fit for your investment needs.
- Are a beginner investor: Just getting started on making investments? Hiring a financial planner can eat into your initial investment with fees, but robo investing offers a slight break in the cost. If you are beginning investor, just trying to get your feet wet with wealth management, robo investing is a great way to investigate what it’s all about.
- Have uncomplicated investments: Keeping your investments relatively simple is ideal when you plan to look at robo investing. Algorithmic trading can be a great way to increase the overall value of your portfolio, but if you are aiming for more complicated investments, robo investing might not be a great fit.
Think robo investing might be the best fit for you and your family’s wealth management needs? The next step to finding the right robo-advisor is to consider which features are the most important to you. Here are a few categories you might want to consider when it comes to selecting a robo-advisor:
- Cost of the robo investing service (You should be able to find several platforms that have no fees)
- Tax efficiency
- Specialization in 401(k)s
- Access to personal financial advisors
- Low account minimums
AdvisoryHQ has already put together a list of the Top 5 Best Robo-Advisors, a comprehensive ranking of robo investing firms and the various features they offer. For a sneak peek at the top robo investing firms that are included on this list, take a look at Personal Capital, Betterment, Wealthfront, FutureAdvisor, and Charles Schwab.
Conclusion: Is Robo Investing for You?
It’s no wonder that robo investing is drastically increasing in popularity. After all, robo-advisors can offer simple solutions for do-it-yourself investors at a fraction of the cost of traditional financial advisors and financial planners. Robo-advisors use award-winning science to perfect algorithmic trading and maximize your investments. With more advanced platforms, the rebalancing aspect of robo investing can be far more efficient than that of a personal financial advisor.
However, some people aren’t ready to let go of the personal aspect of wealth management. With robo investing, you can opt for the best of both worlds. Select a robo-advisor that also grants you access to a live team of financial advisors who can take the time to address your questions and concerns. While robo investing does minimize the amount of human interaction involved, you can opt for services that give you as much face-to-face interaction as you might desire.
If you are a go-getter who wants to keep a close eye on your uncomplicated investments, robo investing might be a great choice for your wealth management service needs.
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