A robo advisor is essentially the digital version of a human financial advisor. These online services are growing in popularity due to their low-cost and they typically require low or no minimum balances.
These platforms offer an easy way for virtually anyone to have an investment portfolio expertly set up within minutes and managed around the clock. If you don't want to spend time and money on a financial advisor, you don't have to—and you don't have to do the investing yourself, either.
New companies, as well as many banks and major investment companies, are offering a range of robo advising options, from portfolios based on goals such as retirement or saving for college, and some that add human advising as part of the package.
How Do Robo Advisors Work?
These automated services rely on algorithms and take the human element out of building an investment portfolio (which dramatically lowers the expense of these services).
The process is quick. It typically begins with an online questionnaire that will ask your age, gross income and your financial goals, such as saving for a car, a child’s college education, travel or other goals. The robo advisor will assess your tolerance for risk—if you’re aggressive and looking for higher, faster returns with more potential for loss, or if you’re more conservative and want to minimize risk along with potentially higher returns.
Most robo advisors focus on low-cost exchange-traded funds (ETFs), optimizing the "passive" investment strategy of minimal buying and selling. These platforms follow a broad market index, such as the S&P 500, and maintain it without much trading. This is simpler, cheaper and is considered a way to succeed in reaching medium or long-term goals.
What Are the Benefits of a Robo Advisor?
Robo advisor annual management fees are low—typically about 0.25% to 0.50%, and some charge nothing. Many require low or no minimums to invest. So, robo advisors can be a great option, particularly if you are a new or young investor, or have a low net worth.
Low Time Commitment and Convenience
Setting up an account is easy and can be done in minutes. Eliminating or minimizing the human element is convenient and efficient because you can access the platforms 24/7.
Options to Consider When Working with a Robo Advisor
If you're not entirely comfortable working without any actual people involved, you can choose a popular hybrid—robo advisors that also offer some human assistance. If you're looking for more detailed advice for determining your financial goals or addressing plan changes and more complex situations, then this is a good option. The fees align with the extent of the service, from the ability to ask a financial expert an unlimited number of questions through an app or online chat, to having periodic sessions with an advisor by phone or in person.
Some robo investors also let you be more involved, guiding you in building your own portfolio by choosing stocks and ETFs yourself.
Tax-Saving and Other Features
When you begin making money on your investments, you’ll want to minimize the amount of taxes you have to pay on capital gains if you are to attain your goals. Many robo advisors offer "tax harvesting"—quickly identifying and selling assets at a loss to offset realized gains and replace them with similar assets. Algorithms generally are more effective at this than humans.
Another valuable feature is automatic rebalancing, which monitors your portfolio and adjusts investments so your asset allocation stays on target with your goals.
Socially Responsible Investing
Even algorithms can have a conscience—if humans program them that way. Robo advisors offer socially responsible investing, in which they build portfolios composed of companies that are not only profitable, but also operate in a socially just, environmentally sustainable way. This growth strategy includes investing in entities that employ alternative energy and clean technology practices, for example.
Robo advisors pose an exciting, relatively new way to leverage all of the benefits of a traditional financial planner at a much lower cost. Choosing one with the features that suit you best offers a great way to invest, accumulate wealth and help you meet your goals in life.