Robo-advisors are shifting the investment landscape and revolutionizing the way many people manage their money. In contrast to high-priced financial advisors, robo-advisors are offering investment services at a fraction of the cost and democratizing the investing process.
No longer do you need a portfolio of $250,000 or more to get investment advice.
Now investors of nearly all ages and portfolio sizes can start investing. But how are robo-advisors actually reducing the cost of investing?
How and why is it cheaper than going with a traditional advisor? Here are just a few of the ways that robo-advisors are reducing the cost of investing.
1. Less Overall Expenses
These non-traditional advisors are called robo-advisors, not because something akin to R2D2 is managing your investments, but because robo-advisors operate as an automated investing service. Many robo-advisors use Modern Portfolio Theory (MPT) to create investment algorithms that maximize returns and minimize risk.
What does this all mean?
It means that robo-advisors are able to attract a huge customer base without needing to have a certain ratio of financial advisors to assist clients. It also means that nearly everything is done online, which reduces the overall cost.
In addition, most robo-advisors seem to have a smaller customer service department that act as client support. When things go wrong, you’re not going to turn to a financial advisor, but likely a customer service representative.
Because nearly everything is automated and done online (although phone numbers do appear on a number of robo-advisors’ websites), the cost of investing is much lower than with a traditional financial advisor. You’re not paying for personalized one-on-one service, which can significantly reduce the cost of investing.
2. No Sales Pitches
Every financial advisor operates differently, but some charge fees close to one percent of your assets while others take commissions on products they recommend. These are fee-based or fee and commision-based advisors.
There are fee-only advisors that don’t make any money on products or advice, which could be a good option if you want to avoid the potential sales pitches you may get from your financial advisor. But even so, we’re all human and impartiality can be tough, even when it’s met with the best intentions. If you want to avoid sales pitches, or potential conflicts of interest, robo-advisors can help.
Robo-advisors make recommendations automatically using MPT. There are no emotions. No secondary goals. Nothing to add to someone’s bottom line. This can reduce the cost of investing, because it takes those extra variables out of the equation.
3. Lower Fees
It’s no secret that fees can eat up a huge chunk of your investment portfolio. Financial advisors can have higher fees or commissions (typically 1 percent or more), whereas robo-advisors offer management fees at a much lower level.
Robo-advisors such as Wealthfront do not charge a management fee for accounts under $10,000, making it more accessible than ever for the newbie investor to get started. Betterment has a fee structure of 0.15 percent to 0.35 percent, depending on your account balance. Having fee structures that are cut down by over 50 percent significantly reduces the cost associated with investing.
For example, using one of Betterment’s calculators, an account balance with $100,000 costs $83 per month with a traditional advisor charging a one percent fee. On the other hand, with a robo-advisor the fees would only be $13 per month with a 0.15 percent fee. These lower fees can save you money and also reduce the overall cost of investing throughout your lifetime.
4. Low to No Minimums
What keeps many investors out of the ring are the minimums that accompany financial advisors. Financial advisors can require that investors have a certain amount of wealth accumulated already — in some cases $250,000 to $500,000.
Many investors that are just starting out don’t have that kind of money laying around and are effectively pushed out of the playing field. Robo-advisors provide investors with a nice training ring and tools to get started at nearly any level of wealth.
Instead of waiting to have a large cash pool to invest with, you can start growing your money now and seeing returns.
Robo-Advisors Lower Investing Costs
Robo-advisors can reduce the cost of investing in a number of ways and put money back into investors’ pockets. Typically, robo-advisors are a great option for new investors looking to get started or those with a smaller portfolio that may not qualify to work with a traditional advisor.
Keep in mind that while robo-advisors may be cheaper, you are losing a bit of that human touch — the relationship aspect. So when there’s a market downturn, you may not be able to cry on your robo-advisor’s shoulder.
There are no right or wrong answers, the key is to continue investing and maximize your returns. Just know that saving money on the cost of investing is costing you in another area.
Readers: what are some other ways that robo-advisors reduce the cost of investing and make it more accessible for everyone?