Automate Your Wealth Simply With a Robo-Advisor

Recent technological developments have accelerated the digitization of finance, especially with the uptake of AI and machine learning. The attention to AI has also renewed interest in robo-advisors, which are a popular choice, especially among newer investors. The global market was valued at $6.61 billion in 2023 and is projected to reach $41.83 billion by 2030, reflecting a compound annual growth rate of 30.5%.

“Robo-advisors provide digital financial advice based upon mathematical rules or algorithms,” said Robert Johnson, chartered financial analyst and CEO of Economic Index Associates. “They attempt to fill a need for the masses to get financial advice in a cost-efficient manner. The cost of robo-advisors is considerably less than that of human advisors.”

Below, we’ll explore what you should know about these platforms: how they work, how they can help automate your wealth management, and the drawbacks they have.

What is a Robo-Advisor?

A robo-advisor is a digital platform that enables automated investing, offering financial planning and wealth management services with minimal human involvement. Their services often include the following:

How Robo-Advisors Work

At the core of every robo-advisory system is a set of algorithms: mathematical models used by the platform to build and manage investment portfolios. These algorithms are often based on modern portfolio theory, which directs portfolios to be constructed so that they maximize expected returns for a given level of risk. By combining different asset classes that don’t move in perfect correlation with each other, it’s the theoretical version of “don’t put all your eggs in one basket.”

When you’re onboarding with a robo-advisor, you typically complete a questionnaire that helps it assess your risk tolerance, investment goals, and time horizon. The platform uses this information to recommend where you should invest and how much (your asset allocation) to start.

From there, the robo-advisor manages your portfolio automatically. It monitors your performance using data analytics and rebalances as necessary to maintain your asset allocation or to take advantage of strategies like tax-loss harvesting.

Many investors use robo-advisors in addition to their other financial services. “They are increasingly being adopted as a complementary tool—another avenue for investing that offers convenience, automation, and accessibility,” said Kapil Vora, senior director of wealth intelligence at J.D. Power. “Today, most major investment platforms offer some form of robo-advisory service, often under different brand names or integrated into their broader wealth management products/services.”

Types of Investments Managed by Robo-Advisors

Robo-advisors generally offer a finite menu of investments, so you may not have the ability to purchase any individual asset you want through their platforms. However, there’s usually enough flexibility to design a portfolio that meets your needs. Typically, these options include the following:

• Exchange-traded funds (ETFs): These are the most common building blocks for robo-advisor portfolios. They offer easy diversification through exposure to the broader market or specific sectors, often with low fees and relative tax efficiency.
• Mutual funds: Some platforms may offer mutual funds that provide similar benefits to ETFs, like passively managed index funds.
• Individual stocks: Certain robo-advisors allow you to invest directly in stocks. However, you may have to meet minimum portfolio value requirements to be eligible.

Some robo-advisors offer access to other asset classes, including cryptocurrencies, bonds, and cash. However, these are often only accessible through ETFs or separate account-level features (i.e., a bond laddering tool or a high-yield savings account). 

Choosing the Right Robo-Advisor for You

While most robo-advisors operate on similar principles, the differences among them are significant enough to merit careful consideration. Here are a few tips to help you find the right platform for your needs:

• Compare costs: Robo-advisor fees may seem relatively small, often ranging from around 0.25% to 0.50% of assets under management (AUM) annually. However, being at the higher or lower end of that range can make a meaningful difference in your long-term returns, especially since those fees are guaranteed.
• Check their reputation: Search for online reviews from reputable sources to gain insight into the platform’s user experience and customer support. You can also consult your human financial advisor for recommendations.
• Review investment options: Explore what types of assets the platform allows you to invest in before signing up. Robo-advisors typically share a list of available funds online, or at least some sample portfolios. 
• Consider historical performance: Past performance may not guarantee future results, but it can give you an idea of how a robo-advisor has performed in different market conditions. Fortunately, platforms often publish historical return data online for their standard portfolios.

Monitoring and Adjusting Your Investments

Robo-advisors are designed to manage your portfolio for you, automatically rebalancing and tax-loss harvesting to optimize returns. However, it’s still necessary to check in on your account regularly to monitor performance and confirm your investments still align with your goals.

Consider reviewing your portfolio quarterly or annually to review your financial position and progress toward your goals. Every few years—or when major life changes occur—you should also reassess whether your asset allocation matches your risk tolerance and time horizon.

The Limits of Robo-Advisory Services

Robo-advisors may be convenient and affordable compared with traditional financial advisors, but they also shouldn’t be expected to take care of all of your wealth management needs.

“The biggest drawback of robo-advisors is that they are largely a one-size-fits-all solution,” Johnson said. “If two individuals are of the same age and indicate that they have the same risk tolerances, robo-advisors will provide similar solutions. But we are all different, and customized solutions are necessary.”

Robo-advisors also can’t provide the same degree of guidance or emotional support as traditional advisors—something you might miss during turbulent market conditions.

“The biggest advantage of utilizing a human advisor is that when the market exhibits volatility, the advisor can reassure the client that they are on the right path,” Johnson said. “The greatest contribution of an advisor is to explain why a certain strategy is correct and to talk the individual off the ledge in times of market turmoil.”

As a result, for many people, robo-advisors may not fully replace human advisors, but can be used in conjunction with their other services. For those who don’t need hands-on guidance, however, they can be a stand-alone tool, especially when they’re available at no extra cost through a platform you already use.

“The lack of personalization is a big deal,” Conners said. “Robo-advising could ultimately replace human investors. However, this is looking out 20 or more years. AI is still such a nascent technology, it’s very difficult to predict how it will compare. Especially given that human advisors will have more tools, too, at their disposal.”

The Bottom Line

Robo-advisors use algorithms and mathematical models to build and optimize client portfolios with minimal human intervention. While they don’t offer the same kind of personalized advice or emotional support as a traditional advisor, they can be a cost-effective way to automate your wealth management.

If you’re looking for a simple way to streamline investing, a robo-advisor may be a good place to start.