With a plethora of financial tech (or “fintech”) services coming online, it can be hard to tell exactly what each app or platform does. Two of the most popular new fintech categories are robo advisors and microsavings. They arrived on the scene at about the same time and seem to perform similar functions. So what the heck is the difference?
What Microsavings Do
Microsavings services have been hitting the U.S. market only in recent years, but the principles behind them have been around for decades in developing countries. They’re based on the idea of new and small savers accumulating savings in very small — we can say microscopic — increments. The “secret” is to make these small deposits on a very frequent basis to a) build up a large amount of savings, and b) to do so in a way that isn’t disruptive or even particularly noticeable in the saver’s budget.
Because the money is accumulated at a microscopic level, the saver is able to acquire savings without making any radical sacrifices. It is an excellent way for a non-saver to become a saver and is well suited to the new-saver market niche.
Microsavings accounts typically have no minimum initial deposit or funding requirements. There are often no or incredibly low account fees. The idea is to give the new or small saver every opportunity to accumulate a more substantial amount of savings. Traditional obstacles to that effort are therefore removed.
Microsavings services are based on the use of different passive savings strategies. They work by allocating a very small amount of money to savings or investments based on regular financial transactions. The specific transfer methods vary by service and are surprisingly innovative.
For example, Acorns uses a method referred to as round-ups. You tie your Acorns account to your bank account, and when you spend money with your credit or debit card, the amount of the purchase is rounded up, with the difference going into savings. In this way, a purchase of $5.37 can be rounded up to $6, with 63 cents allocated to savings. But with Acorns the money is moved into a roboadvisor platform, enabling you to go from saving small amounts of money straight to investing it. (For more ideas on how to make the most of Acorns, check out this guide.)
Much like Acorns, Stash Invest allows you to invest small amounts of money — as little as $5 — into a managed robo advisor account. You go from saving small amounts of money straight to investing.
Qapital also uses the round-up method of allocating change to savings. But they take it a step further by allowing you to allocate small savings deposits from other activities, like social media participation. For example, you can allocate a few cents to be deposited every time you “like” a video on YouTube or a post on Facebook.
In each case, you transfer money automatically into savings as a result of ordinary financial transactions or other activities. But the number of transactions means multiple micro transfers occur, adding up to more substantial amounts on a weekly, monthly or annual basis. More importantly, you are able to accumulate savings without making any kind of a dedicated effort to do so.
What Robo Advisors Do
Whereas microsavings services focus on creating systematic methods for new and small savers to accumulate savings, robo advisors serve as professional investment managers for new and small investors. They offer the types of advisory services that are typically available only to those with larger ($500,000 and up) investment portfolios, by allowing small investors to invest with little or even no money. They also charge lower fees than traditional investment advisors do — much lower, in fact.
Basically, robo advisors are online wealth management platforms that offer automated portfolio management, primarily for small investors. The methodology is based on algorithms designed by each robo advisor platform.
They typically have very low minimum initial deposit requirements and sometimes none at all. Fees are based on a percentage of your account balance and can run between 0.15% and 0.50% per year. That’s well below the 1.00% or higher that’s typically charged by traditional investment advisory firms.
They start by doing an assessment of your robo investing profile by evaluating your age, your goals and your risk tolerance. From there they will construct a portfolio of stocks, bonds and sometimes real estate that is consistent with that profile. They typically invest using low-cost, index-based exchange traded funds (ETFs) to keep investing costs low.
Most also offer regular portfolio rebalancing to make sure your account stays consistent with the target asset allocation. Some even offer tax-loss harvesting, which is designed to minimize the tax liability that can be generated by short-term capital gains.
Your only responsibility is to fund your account — the robo advisor takes care of all of the mechanics of the investment process for you and at a very low fee.
Similarities Between Microsavings Services and Robo Advisors
Microsavings services and robo advisors both work on an automatic basis. You set your allocations — whether it’s an amount to save or a portfolio asset allocation — and let the service do the rest. You go about your regular activity, and as you do, your savings accumulate or your money is automatically invested.
This turns savings and investing into completely passive activities, which is precisely what many people need for either activity.
Another quality they share is heavy reliance on technology. Both are set up to accept automatic deposits or, in the case of robo advisors, to invest according to a predetermined algorithm.
But perhaps what they most share is an emphasis on the entry level market — the new or small saver/investor. Since the big banks and the major brokerage firms tend to cater to large investors, microsavings services and robo advisors are tapping into a huge and previously ignored market segment. The two services are something of a market equalizer, making big-time services available to small investors.
Differences Between Microsavings Services and Robo Advisors
The most fundamental difference between microsavings and robo advisors is that microsavings services are designed to enable the user to accumulate savings, while robo advisors are investment platforms.
That’s the general difference — but as we’ve already seen, Acorns and Stash Invest each function as both a microsavings service and as a robo advisor.
Which Service Can Work Best for You?
Actually, both — if you’re a new or small saver/investor. They can be even more important if you’ve never adopted the savings/investment habit in the first place. The key is both microsavings services and robo advisors are essentially automatic pilot-type services that enable you to save and invest without making any serious extra effort.
Both work similar to the concept of 401(k) payroll deductions in that they enable you to save and invest automatically. This allows you to accumulate money without experiencing any sense of self-sacrifice, which is the “force” that often keeps people from either saving or investing. Each enables you to accomplish the objective while going about your regular business.
If there is a sequence, you might want to start with a microsavings service. That will enable you to at least begin saving money, which you can then transfer into a robo advisor once you’ve accumulated what you consider to be a comfortable amount of money. This will enable you to at least begin incorporating into your life the savings and investment patterns that are absolutely necessary in order to reach any level of financial security or independence.
Microsavings services and robo advisors were made especially for new and small savers/investors. If that describes you, these are the platforms you’ve been waiting for.