Over the past few years, a new wave of digital wealth management FinTech firms offering automated investment advisory services have started to gather the attention of the industry. This automated investment advisory solution has seen substantial market share growth over the past few years, and is projected to gain even more traction going forward. These firms eliminate the need for a dedicated human advisor by leveraging client analytics, algorithmic portfolio allocation, and a simplified user experience to develop automated investment recommendations that are personalized to the needs of individual clients.
Robo-advisors refer to the digital equivalent of investment managers. The robo-advisory service leverages technology to automatically allocate client investments across different asset classes, based on clients’ risk profiles and financial goals. This personalized investment advice is largely automated and can be provided with minimal or no human intervention.
The advisory process for most robo-advisors is simple. Investors are required to complete an online questionnaire comprising of questions targeted to gauge their financial goals, risk tolerance and investment horizon. Based on the risk profiling and key tenets of the Modern Portfolio Theory, the algorithm proposes an investment portfolio to the investor consisting of various asset classes such as equities, bonds, etc.
More often than not, robo-advisors predominantly offer Exchange Traded Funds (ETFs) due to their simplicity and exposure to a diversified range of underlying instruments at a lower expense ratio. Once an investment proposal is generated, the investor has discretion over the decision on whether to proceed with the execution. Rebalancing of the portfolio is then performed based on market movements or predefined schedules to ensure that portfolio remains congruent with the investor’s risk profile.
There are several types of Robos, based on services, expenses, and your access to humans that use a variety of naming conventions:
? -Online Financial Advisors
? -Automated Investment Advisors
? -Robo Asset Allocators
? -Automated Investment Service
? -Digital Investment Advisors
According to some reports, tens of billions of dollars are currently being managed by robo-advisors, and some estimates indicate that robo-advisors could be managing hundreds of billions, and possibly even trillions, of dollars in just a few years.
Key Value Propositions of Robo-advisors
Robo-advisory platforms differentiate themselves by offering their investors minimal capital requirements, low management fees and a simplified investment journey.
? Minimal capital requirements: Some robo-advisors provide advisory services for capital investments for as low as $50. Advanced pooling technologies make it possible for investors without a large capital to get started and build up their investment portfolio, hence addressing the needs of a new segment of investors that has previously been neglected by traditional wealth management.
? Lower cost of investing: While most of the established firms are still charging a portfolio management fee of between 1-2%, if not more, on assets under management (AUM), robo-advisors are leveraging low-cost product portfolios such as ETFs that provide asset diversification. Not only are they charging lower portfolio management fees, they are also providing a more simplified fee structure as opposed to the complex fee schedules of conventional advisories.
? Simplified client experience: Online portfolio management, digital investment proposals and automated rebalancing tools have been on the market for several years now. However, the crux of a robo-advisory solution is to integrate these services in a seamless manner and deliver them through an intuitive, user-centric interface that creates a scalable and cost-effective self-service model.
While this value proposition is compelling and allows these firms to capture an untapped segment of customers, it is not without its challenges. Most robo-advisor revenue models are based on management fees that are charged as a percentage of the AUM. Targeted at mass consumers and with a focus to disrupt the existing advisory offering by offering lower charges, most of these platforms would require a large user base to reach an AUM that can support a sustainable business model. This could be even more challenging in developing markets like APAC where the customer profile is less homogeneous as compared to mature markets like the US.
Future of Robo-Advisors
The future of robo-advising is very bright. In business, we tend to overestimate progress in the near term and underestimate the impact and direction things will take in the long term. As with most technology, slow adoption for a short period of time is not out of the ordinary. At some point there will be an S-curve and a point of no return. It’s in the best interest of financial institutions to invest in these digital solutions and be there when it takes off. The key is to not miss the boat. Those who recognize the benefits and future of robo-advising first will lead the way.
The perfect scenario for the wealth management industry is this: in several years, we won’t necessarily be discussing the effect robo-advising is having on financial institutions. Instead, robo-advising will be a tool used by nearly everyone, from financial advisors in wealth management firms to the average at-home retail investor. The cost savings and better customer experience offered by robo-advising are a win-win for everyone.