The article is an educational piece about robo advisory. For informational purposes only.
When I first joined the wealth advisory business more than a decade ago, things were, in my opinion, less complicated. Products were simpler to understand, a stable asset allocation was often good enough and service quality was really the most important aspect of our job. Today, the same investor is spoilt for choice, with wealth management services readily available at a wide selection of banks, independent financial advisors (IFAs) offering a broader range of products, and new entrants in the form of robo advisors entering the market. It’s hard not to think that my job is not at risk!
What is robo advisory and how does it work?
Robo advisors are digital platforms that provide automated, algorithm-driven financial planning services with little to no human supervision. 1 A typical robo advisor will assess your risk tolerance through an online questionnaire, then propose a few “ready-made” portfolios (consisting of either Exchange Traded Funds (“ETFs”) or Mutual Funds) that match your risk profile. After which, the portfolios will go through automatic rebalancing using their proprietary asset allocation mechanism. This automated platform approach is what allows the robo advisor to have lower fees.
But, does your robo advisor truly understand you?
If you have attempted an online financial needs questionnaire, it mainly covers the quantitative aspects (assets, liabilities, income, expenses, ability and willingness to take risks defined by percentage losses that you can and are willing to take). Such assessments rarely take into consideration major milestones or life goals.
I believe a robot simply cannot weave together the complexities of an individual’s multiple life aspirations. For example, a father may be saving up for his child’s university education but if market conditions are supportive, he may quit his full-time job to start his own business. Such goals are not quantifiable yet can and should be taken into consideration by a financial advisor when doing a comprehensive financial planning.
Does matching a risk profile to a standard portfolio equate to giving good financial advice? I would challenge this notion. In my experience as an Investment Advisor, I have come across many clients who seek investment products that are of low risk, yet they provide high returns. The definition of risk is often a very personal decision and it’s not something that can be ascertained by a simple questionnaire. In the case of a robo advisor, chances are a low-risk client will likely be directed to the robo’s “cash portfolio”, consisting of money market instruments, yielding a return slightly better than holding cash. I would argue that this might not be the best advice and attempt to understand these clients better on their specific needs and concerns. And if required, educate them about the relationship between risks and returns and how these risks can be mitigated through proper diversification given the appropriate investment holding period.
Like a sherpa/guide who knows the terrain, advisors can assess financial situations, preferences and existing holdings. It is akin to finding the missing piece in your investment jigsaw puzzle, where standardised portfolios may fail. For instance, a conservative investor may have multiple insurance policies, but since an online questionnaire rarely captures active insurance policies, the automated advice will likely recommend a fixed income centric portfolio to match his or her risk profile. A human advisor, on the other hand, may recommend exposure to multi-asset funds (i.e. mix of bond and equities) and/or more defensive equities to achieve a more diversified and robust portfolio.
The value adding advisor
Ask a business owner and he will tell you that sales revenue growth is but one of the key factors to achieve earnings target. Other factors include reduction in expenses and cautious use of debt to invest in financial assets.
Likewise, the financial planning journey is also more than just investing in a “ready-made” investment basket in the hope of making a positive return. If investors are comfortable with the inherent risks, there are innovative strategies that human advisors can suggest to achieve financial goals faster. While robo advisors are limited to rebalancing portfolios using pre-set algorithms, nimble human advisors may identify opportunities beyond the universe of ETFs and Mutual Funds. For example:
- Fixed Income – Buying short-dated corporate bonds to match cash flow requirements of clients.
- Equities Structures – Locking in the attractive parameters (higher coupon, better downside protection etc) in equity structures when market volatility escalates.
- Currencies – Using different currencies to lower interest costs or investing in opportunities not found in SGD.
The personalised human touch
In a bull or range-bound market, some investors may prefer minimal human contact and are generally satisfied with a portfolio update through a robo advisor’s app. However, this “take it or leave it” approach towards a standard portfolio may not work well when market is in turmoil and worse still, if the robo advisor’s investment philosophy contradicts yours. While you think that China’s valuation is cheap enough to start investing, your robo advisor may think that China is “uninvestable” and heads for a complete exit!
Hence in challenging market conditions, most investors prefer curated advice or perhaps a discussion of pros and cons on the various available options – whether to stay the course, average down or cut losses.
This personalised handholding and reassurance by human advisors is something robo advisors are unable to provide.
Investing is a long journey, like a long hike to the mountain top. Navigating it on your own (with Google Maps) and journeying with a sherpa (who is the map) result in two very different experiences. A good sherpa knows your fitness level (risk appetite), cautions you of potential danger and points out scenic views (opportunities) along the way. The sherpa will also provide tips on how to reach the summit (financial goals) faster but when bad weather (market uncertainties) strikes, he or she is there to encourage you and provide alternate paths to take.
Will robo advisors replace me? I am convinced that as long as I continue to enhance client’s investment journey, I will remain an asset to the bank and its clients.
About the writer
Joey finds joy in sharing her knowledge, experiences and thoughts with different people. Her most loyal (and captive) audience, are her three children, who are also her biggest investments, giving her good diversification from the financial markets. In her previous life, she conquered Everest Base Camp and marathons. Now she looks forward to soaking in the beauty and wonder of nature once again, after her biggest investments ‘mature’.