Evaluating a Robo-Advisor

The advent of robo-advisors, automated online investment advisors that have gained popularity in recent years, has upended the financial planning and wealth management worlds. If you're comfortable with counsel that's primarily dispensed digitally, then this course might be a good one for your needs.

But how do you evaluate and decide which robo-advisor to use? Here are some guides to how we evaluate robo-advisors. Check out our Robo-Advisor Award winners and in-depth reviews as well.

Key Takeaways

  • With so many robo-advisors now available and competing with one another, what should you look for in choosing the one best for you?
  • First, take a look at the services provided. Many robo-advisers now have standard tax-loss harvesting and automatic rebalancing at no additional cost.
  • Second, determine the amount of human intervention or contact that you prefer. Do you want to automate everything or do you like to have somebody to talk to on a regular basis?
  • Finally, evaluate the costs and fees charged by the robo-advisors you are interested in and weigh those against the added features and benefits that you may prefer.

Identifying Robo-Advisor Services

The first step is to determine what type(s) of financial advice and services you need. Most robo-advisors manage your money in one form or another. There are also firms such as LearnVest, focusing is on budgeting and financial planning, and providing access to live help via the phone. While Learnvest may make investment recommendations, the firm does not actually invest your funds.

For the most part, though, portfolio management and asset allocation are the staple services that robo-advisors provide. They do it via the use of an algorithm that is based on Modern Portfolio Theory, generally using exchange-traded funds (ETFs). Some firms such as Folio Investing and M1 Finance offer pre-set portfolios of stocks or ETFs that clients can buy with a click. Others walk clients through a goal-setting process and recommend a portfolio that fits their timeline and risk preferences.

Above this basic level of service, several robo-advisors offer tax-loss harvesting services for portfolios that are not tax-advantaged in some way, such as an IRA. Many now offer tax optimization strategies standard, but keep in mind that tax-loss harvesting is not always beneficial—it all depends on your tax situation. Some of the robo-advisors that offer tax-loss harvesting will only do so if you opt in, so read the specifications carefully.

Some robo-advisors further specialize: For example, Rebalance IRA focuses on retirement accounts and Blooom optimizes 401(k) investments. Personal Capital, which offers the ability to manage all of your accounts on a consolidated basis, is aimed at a slightly more upscale market; to partake of its management services, investors need a minimum of $100,000.

How Much Will it Cost?

Just as there are variations in the services offered, there are variations in the fees charged. They generally range from 0.15% to 0.50% of the assets under management. Some advisors charge a one-time setup fee as well.

LearnVest's fees range from $89 to $399 for their initial review and then $19 per month after that. Personal Capital's fees range from 0.49% to 0.89% of the amount invested. Acorns charges $1 every month, while Betterment and Wealthfront, along with several others, charge a simple 0.25% annual fee based on assets under management. 

Remember that the expense ratios of the underlying ETFs or mutual funds the robo-advisors are investing in will apply as well. There might also be transaction costs for trading various investments. In addition, robo-advisors generate income on the uninvested cash in your account, while paying little interest to you.

Can I Talk to a Person?

Robo-advisors began with the idea that minimal human involvement could lower costs and people could just set-it-and-forget-it, letting the algorithms run the show. However, some investors still like to talk to a professional from time to time. Betterment was the first robo-advisor to bring in actual financial advisors to help field questions and give investors peace of mind. Now, several other robo-advisors have followed suit and many will even assign users a personalized advisor. Keep in mind that those professionals need to be paid, and so the robo-advisors that have financial advisors on staff may charge higher investment management fees, or a one-time fee for a consultation.

Also, it should be noted that the financial advisors at many of these platforms do not have the ability to make direct investment changes or recommendations. Instead, they are there to answer questions, field general financial advice, and keep users' emotions in check.

Robo-Advisors vs. Traditional Financial Services Firms

The popularity of robo-advisors has not been lost on major players in the financial services industry. Established players in the self-directed trading industry have launched their own robo-advisories to appeal to clients who want to set aside some of their assets to be managed passively. These robo-advisors are part of a larger offering that includes banking and self-directed brokerage services:

These companies have the money to invest and the time to allow these services to grow. Additionally, as your needs change or if you desire a more personal touch, you will be positioned to transition seamlessly to other services offered by these firms.

The Bottom Line

If you've opted to go with a robo-advisor, you still have to consider which one best fits your needs as an investor. Factors to consider are the types of advice and service the robo-advisor offers, the level (if any) of human interaction offered, the minimum investment required, and any fees or expenses that you will incur. The increasing interest of major financial services firms in this arena is a further consideration.