Robo-advice has been used in the US and Europe since around the time of the Global Financial Crisis, but it’s still relatively new to Australia. Robo-advice – or automated investment management – is generally provided online, removing the face-to-face interaction that you’d have with a traditional investment advisor. Robo-advisors in Australia and around the world automate many of the processes for managing investments, allowing them to provide services at a very low cost to investors.
Most robo-advisors begin by asking you to complete an online questionnaire designed to assess your personal situation and your risk tolerance — a streamlined version of the experience you would have with a human advisor. Based on your answers, a robo-advisor will recommend a portfolio – usually an allocation of globally diversified, low-cost exchange-traded funds (ETFs) to suit your risk profile and investment horizon.
Once you’ve opened an account and deposited money, the robo-advisor moves from offering advice to actual management, buying securities that corresponded with the portfolio recommendation you’ve accepted. On a regular basis, it will rebalance your portfolio, buying or selling ETFs so that as certain holdings rise or fall in value, your investments track your ideal mix of assets. Any new money you add will be allocated in the same way.
Lower costs for investors means more funds are invested and benefit from the power of compounding interest. Robo-advisors are also opening up the world of investment to people with much smaller investment amounts. A traditional financial advisor might only meet with clients with $500,000 or more, whereas most robo-advisors can offer their services for investments as small as $10,000 or even less in some cases.
So, what should you find out before choosing a robo-advisor?
Before you consider using a robo-advisor to manage your investments, you need to understand what robo-advice is best suited for, then assess that against what you want or need.
Robo-advice typically provides “scaled personal advice” – that means the advice is relevant only for the funds you put on the service’s platform. Robo-advice is best for people who have cash they want to invest in a smart, low-cost, low-hassle kind of way.
Robo-advisors don’t advise on estate planning, tax matters or household budgets, so if you need this type of advice, you should talk to a professional or use other tools available on the internet (such as budget management).
Robo-advice is a low-cost service, so one of its key benefits is harnessing the power of compounding interest over time. So if you want a quick win with your money over the course of a year, a robo-advisor is probably not for you.
Many robos don’t require you to deposit money before seeing what portfolio they would recommend – you just fill out the forms and get instant feedback via a suggested mix. That means you can sign up with different services, test-drive the initial experience, and get a feeling as to which robo "understands" your situation best from the questions you answer.
If you're saving for retirement using a non-super or self-managed super fund, robo-advisors can handle that. And if you want to save for another goal—say, for a newborn’s future education bills — robo-advisors can be great for that too.
Most robo-advisors will have some degree of people power behind them, but the best robo-advisors are backed by people with proven investment experience. Importantly, while the robo-advice platform needs people who are tech-savvy to manage the security of the business, important investment decisions such as asset allocations should be trusted to people with a long and successful track record in this area. Asset allocations need to be professionally assessed and reviewed, but not all robo-advisors offer this level of service. Does the robo-advice have a human overlay of experienced people assessing the investments?
A 1% difference in management fees between robo-advisors may not sound much but, spread out over 10 years, it can make a huge difference. For example, John and Sarah each invest $50,000 over 10 years earning 8% a year. John pays 0.5% in fees, Sarah pays 1.5% after all fees are added up. After 10 years John has $103,000, while Jane has $93,000. That’s a $10,000 difference on a 1% difference in fees.
Most robo-advisors are relatively new to Australia so they may not have 10 years of past performance. Recent market returns across the industry have been positive but be wary of any robo-advisor that guarantees long-term consistent returns above 10% and check the numbers carefully. Robo-advisors should also provide their recent returns as well as any back-tested returns of their portfolios. These can be measured in a lot of different ways so make sure that you read the fine print. For example, if you’re comparing one service that includes imputation credits versus one that doesn’t, it’s not an apples-to-apples comparison.
Some robo-advisors streamline the investment process by pooling your investment with other clients’ money. Others keep investments separate by setting up each client with a cash management account and trading account in their own name. This involves giving each client their own holder identification number, or HIN. This process might add a couple of steps but there are pros and cons to each method. If a robo-advisor did cease trading, a HIN model means everything is clearly defined in your name. It is worth determining which investment model the robo-advisor uses.
If you’re trusting someone with your investment, it’s fair to expect them to be responsive with calls, emails and any other form of communication they offer. So consider giving them a test run. If the robo-advisor offers live chat, then chat with them. If they have a phone number, give them a call. Get a feel for the people who will be handling your investment and make sure you feel comfortable with the way they operate.
You’ve done your homework and picked a robo-advisor – nice work. You’re ready to invest. It’s an exciting process, particularly when you’ve taken the time to really work out what you need. Not all financial advisors are the same, and neither are robo-advisors. The technology may look and sound great, but it’s worth checking off the six questions to determine the quality of the advice you’ll get, not just the quality of the marketing. The decision you make can make a big difference to the growth of your investment in five, 10 or 20 years.
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