It’s the big investment question: should you use a robo-advisor?
They’ve been growing in popularity over recent years, but is that reason enough for you to use one?
The short answer is yes.
Robo-advisors aren’t for everyone, but you may decide to give it a try, based on your individual investment needs.
I’ve found that there are at least seven reasons why you should use a robo-advisor, and laid them out below.
Table of Contents:
1. Professional Investment Management at Bargain Basement Prices
For decades, professional investment management has been widely available. However, it’s been tailored mainly to larger investors.
For example, many traditional investment managers only take accounts that have at least $100,000 — or even a half-million dollars — or more. That prohibits new and small investors from participating.
In addition, traditional investment managers charge high fees to manage a portfolio.
The fees range between 1% and 2% of your portfolio value each year. Exactly how much depends on the particular investment manager, as well as the level of service you want for your account.
Roboadvisors can be a solution to both the high minimum balance requirement and the high fees.
For example, robo-advisor Wealthfront will manage accounts as small as $500.
Meanwhile, Betterment has no minimum initial deposit requirement. You can literally open up an account with no money (however, Betterment does require that you set up an automatic funding provision in order to do this).
On the expense front, both robo-advisors charge an annual management fee equal to 0.25% of your account balance. That’s just a fraction of what traditional investment managers charge.
And Charles Schwab Intelligent Portfolios — Charles Schwab’s own robo-advisor service — has no annual management fee at all.
The general fee range for robo-advisors is between zero and 0.50%, though some robo-advisors do charge higher fees for expanded services.
Related: The 4 Hidden Fees of Mutual Funds
2. Taking the Emotion Out of Your Investment Activities
What is the one factor that has the greatest potential to torpedo your investment portfolio?
Your own emotions.
Emotions cause people to buy when the market is high and sell when it’s low.
That’s the exact opposite of how you should invest.
But it’s what happens when investors allow emotions to cloud their judgment.
Robo-advisors can remedy this problem by taking your emotions out of the picture.
When you open up an account, the first thing most of them do is have you complete a questionnaire. The questions are aimed at determining your risk tolerance and goals.
Based on your answers, the roboadvisor builds a portfolio for you.
The portfolio is both created and managed by the roboadvisor. That means that you are not involved in either the buying or selling of investment positions.
So, if you find yourself getting nervous in a down market, you can just let your portfolio play out according to your preset preferences.
3. Participating in an Automated Investment Process
Apart from the fact that robo-advisors take the emotion out of your investing activities, they also handle all of the mechanical processes is for you.
For example, virtually all robo-advisors offer automatic rebalancing. That’s the process of readjusting your portfolio to its designated allocation as the value of the assets within the portfolio change.
That means that if the stock portion of your portfolio rises substantially, the advisor will shift some of the money out of stocks and over to your bond allocation.
Rebalancing not only keeps your portfolio allocations constant, but it also enables you to buy low and sell high — the secret sauce of successful investing — without even trying.
That is, high-priced investments are regularly sold off, while lower-priced investments are regularly purchased.
This is no small advantage.
Let’s say stocks collapse. Due to rebalancing, the robo-advisor will reduce bond positions in favor of buying stocks.
That means that you’ll be buying stocks at the bottom of the market, when prices are low.
And when stocks start heading up? Well, you can do the math on that one!
Read More About The Perfect Asset Allocation Plan
4. Invest-It-and-Forget-It… You’ve Got Better Things to Do
While you may be interested in investing, you might have too much going on in your life to get seriously involved in it.
Robo-advisors are well suited to this type of lifestyle.
You can turn the money over to the robo-advisor, who handles all the investing activity for you. That frees you up to take care of everything else in your life.
This can be especially important if you have a demanding career, young children, an elderly parent to care for, or even just a very active social life.
The time that you don’t have to spend on investing can be dedicated to those other important areas of your life.
Related: Find out who is the Best Robodvisors
5. You’re a New or Small Investor, Hoping to be a Big Investor One Day
As discussed earlier, traditional investment managers work primarily with larger investors. And while self-directed investing has its virtues, it can be difficult to do with a small amount of money.
Given that most robo-advisors have either low or nonexistent initial minimum deposit requirements, they are well suited to a new investor.
Your only responsibility in the investment process is to fund your account.
You can do that through payroll contributions, the same way you do with your savings and checking accounts and your employer-sponsored retirement accounts.
While you focus on funding the account, the robo-advisor is busy managing the day-to-day details of your investing activity.
That’s a solid strategy for growing yourself into a larger investor at some point in the future. It’s also a good divide-and-conquer strategy–you do the funding, and the robo-advisor does the investing.
6. You Know You Should Invest, But It’s Really Not Your Thing
We all know investing for the future is important. It’s all over the financial media and probably deeply embedded in your mind as well.
But what if you don’t really have an interest in investing?
That’s hardly an unusual situation.
It’s probably true that while just about everyone is interested in making money in investing, most don’t really have the mind for it.
That’s perfectly okay. We all have our own talents and interests, and investing is only one of them.
But that’s part of the robo-advisor advantage. You don’t have to be interested in investing… in fact, you can know absolutely nothing about it.
Robo-advising is the perfect investment strategy for anyone who wants to invest but has no inclination toward the do-it-yourself route.
7. Tax-Loss Harvesting – Increase Your Long-term Return on Investment
Robo-advisors strive to invest with a high degree of tax-efficiency.
That starts with the use of low cost index-based exchange traded funds (ETFs). Since the funds are based on indexes, they rarely trade securities.
That means that they don’t generate much in the way of taxable capital gains.
They also use tax allocation strategies.
That’s a process of directing interest and dividend bearing investments into tax-sheltered retirement plans, while equity investments are favored in taxable investment accounts.
This is because equity investments can produce long-term capital gains, which receive more favorable income tax treatment.
A bigger source of tax efficiency is tax-loss harvesting, which is being offered by a growing number of robo-advisors.
This is an investment strategy in which losing positions are sold off to generate capital losses that reduce the capital gains on winning investments.
The losing investments are later repurchased, typically using equivalent funds rather than the actual funds sold. This is done in order to maintain the desired asset allocation within your portfolio.
This can be an extremely important benefit.
Wealthfront, a robo-advisor that is especially strong in this category, has indicated that tax-loss harvesting can improve the return on a portfolio by an average of 1.55% per year.
That could be the equivalent of turning what would otherwise be a 7% portfolio return into an 8.55% return.
That’s a nice enhancement, considering that it doesn’t require any additional effort on your part. And most robo-advisors offer tax-loss harvesting at no additional cost to you.
Learn More: A Guide to Tax Loss Harvesting and Robo-advisors
If any of these reasons match your investment goals, you should seriously consider starting an account with the robo-advisor that you believe will best meet your needs.
Not only will it save you time and energy, but it will also save you money in the end.
Note that Robo Advisors Aren’t for Everyone, Though
Even though I think using a robo advisor makes a ton of sense in most cases, I’m a realist and know that they don’t make sense for everyone. For those people who want guidance on their investments from a real person, look into a fee-based Certified Financial Planner. CFPs will be able to understand your financial situation thoroughly and help guide you on financial advice, for a flat fee (instead of charging you based on how they invest for you).
The best way to find a CFP today, that I’ve seen, is through Facet Wealth. Facet Wealth is a company that works with only the best CFPs around, and they’re able to match you directly with one to work with on your financial goals. You’ll pay a flat fee, and you’ll have a dedicated CFP that knows you and your situation and meets with you virtually through a video conference. It’s pretty cool. If robo advisors aren’t for you, take a few moments to read our Facet Wealth review and see if it’s something you think would add value for you.