Read on Forbes – By Chance Barnett
There’s an age old question in wealth management and investment advice: Man or Machine. Today the battle has begun.
Over the last six years, a related segment of FinTech that has received a lot of attention, and a fair share of controversy, is automated investment services… or what are frequently called “robo advisors.”
These technology-backed advisors were built on the premise that many of the activities performed by a Registered Investment Advisor (RIA) can be replicated by advanced intuitive software. They promise lower costs, simplicity and even the bonus potential of making investing “fun”.
Already, robo-advisors like Betterment and Wealthfront have accomplished something that 99% of startups never do – turning an idea into a company that is growing, thriving, and has the chance to be a permanent fixture in its industry.
In fact, the $4.7 trillion wealth management giant BlackRock just acquired FutureAdvisor, another robo advisor platform with $600 million under management.
But the process of creative destruction in the FinTech industry is happening so swiftly, I began questioning whether relatively new success stories like these can already be jeopardized by competitive threats. Looking at the companies that bookend them – the old-guard companies on one side, and the brand-new crop of startups and products on the other — I came away with a healthy dose of skepticism on the future of the stand-alone robo-advisor.
Robo Advisors and the Bet on Millennials
One of the central selling points robo advisors made to the VCs who have funded them was millennials’ internet savvy, their DIY attitude, and a toxic mistrust of more traditional wealth advisors and financial services firms. Given the two major financial crises they’d experienced in their lifetime, these millennials supposedly harbored a level of mistrust for the financial brands their parents revered that would make defection a near-certainty. They viewed the big banks as inherently evil, and perilously self-interested.
Robo advisors were created to appeal to millennials’ trust in computers and technology – a trust that would outweigh the loss of face to face interaction with an advisor. Surely, this younger generation would gravitate to this technology- based way of managing their financial lives – or would they?
As it turns out… a recent report conducted by Salesforce suggests that the majority of millennials actually do prefer having an advisor. Eighty-one percent wanted their advisor to either manage their money completely independently, or collaboratively with them compared to 86% for Gen-X’ers and 89% for Baby Boomers — not that different.
What is more surprising is that millennials stood out as the generation most interested in face-to-face interactions with an advisor – 47% get investment advice in person, versus 36% for Gen-X’ers and 46% for Baby Boomers. Interestingly, the number one reason millennials gave for firing their advisor was high fees, which robo-advisors have exploited with fees that are a fraction of the cost of traditional wealth management.
While their preference for technology was unmistakable, millennials are clearly not as comfortable relying solely on technology as the incumbent robo-advisors envisaged. There remains a clear desire to have a trusted advisor involved, to be able to ask questions, express financial goals and to learn how to manage money.
In short, it seems that robo-advisors won’t replace the traditional advisor; they will sit alongside them to provide an optimal mix of technology and human intelligence.
Rise of the Cyborg: Half man; half machine.
In response to the growth of Betterment and Wealthfront, and to fit what younger investors are looking for, traditional financial advisors like Vanguard and Schwab recently launched “robo advisor platforms” of their own that include an option to interact with a human, if desired.
They’ve slashed fees, and now offer a wider array of investment vehicles than the incumbent robo-advisors. And with early stage investments in FinTech quadrupling recently, it’s no surprise that after just a few months these hybrid platforms attracted an amount of capital that is many times greater than what the stand-alone robos had accumulated in years.
What this tells us is that Betterment and Wealthfront are right — many investors have elected to stop paying their more traditional RIAs for a service in which some aspects can be performed by technology, data, and automation. And these benefits extend far beyond those who can afford the guidance of Schwab it’s peers. Millions of middle-income families will have access to a greater level of sophisticated guidance than their net worth may have ever allowed before.
But technology can’t create an investing worldview from a person’s particular needs and goals, hold their hand and urge them to stay calm. And these human qualities are more valuable to investors than these companies may have estimated.
Boom or Doom For Stand Alone Robo Advisors?
Now that the incumbents offer similar product with equivalent fees, the stand-alone advisors will have to convince investors that they have something the big guys don’t. Despite their innovations and the trust they’ve built with many investors, the stand-alone robo-advisors haven’t yet demonstrated they can produce better returns, net of fees. So they’ll have to explain how and why their algorithms are superior to the algorithms other firms can produce. But if investors find the prospect of managing money too complex, the nuances of algorithm construction will probably not make for a very good marketing hook.
The recent spike in advertising by Betterment and Wealthfront suggests that they feel a need to meet Schwab, etc. on their field of battle – which is a scary proposition given how well-funded the big brokers are, and how experienced they’ve become at mass-media advertising.
It’s also likely to be a losing battle because incumbents like Vanguard and Fidelity can generate fees on the underlying ETFs they place in client portfolios, enabling a longer lifetime value and therefore greater tolerance for higher client acquisition costs.
Reed Hastings once said that Neflix had to grow and become HBO before HBO could become Netflix. Applying this example to the advisory space, it seems like the incumbents have re-built Betterment and Wealthfront’s secret sauce faster than these companies could replicate that value-added human element that Schwab and Vanguard offer.
I have no doubt a successful exit lies in these companies futures, but if and when they are acquired, it will probably be by a traditional firm that also realizes that it needs to leverage new technology and become “half-man, half-machine.”