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Investing: DIY or Trust Others?

Retail investors face long odds in the capital markets against well-informed, sophisticated, and specialised financial institutions. Based on the analysis performed by finance magnates it appears that 70 to 80 percent of retail clients are losing and that is the norm. There is very little that brokerage companies can do to stop their clients from losing money.

Regardless, many investors trust their abilities and still choose to invest themselves rather than keep their money in savings accounts earning low interest rates. If they are so confident that they can win by investing themselves why does the data show different results? When it comes to investing, overconfidence causes retail investors to exaggerate their ability to predict future events. Investors are quick to use past data and believe that they have above average abilities which enable them to predict market movements into the future. Behavioural investing becomes a danger for investors causing them to lose their money.

One of the things one can do to protect themselves from their own natural tendency to make emotional decisions is to seek professional help and hire a financial advisor. An advisor can serve as an intermediary between the investors and their emotions. However, hiring a financial advisor could end up costing over $10,000 a year and the possibility of behavioural investing does not disappear even for the financial advisor.

What other options does the retail investor have? There is another trend that has been getting a lot of attention from investors, asset managers and banks and it is called automated trading (also known as Robo-Advisory).

What is Robo-Advisory?

Robo-Advisors are automated investment platforms that handle the construction and maintenance of an investment portfolio for investors. Low fees, low minimums and a systematic approach make Robo-Advisors a worthy substitute for humans, at least when it comes to the investing side of the equation.

While there are a lot of good reasons to hire a financial advisor, there’s also a case to be made for hiring a robot instead. Robo-Advisors are a new breed of software that creates a low-cost portfolio for investors and tweaks it over time to adjust to a changing market. In many ways, robots are the ideal investors. They don’t suffer from fear or greed and they don’t charge much. What’s more, the best advisors don’t typically take on clients with less than $1 million in investable assets—and often require far more. Most Robo-Advisors have negligible minimums, if any. Which opened the doors for various investors.

Nowadays major trading action on the floors of the major exchanges like the New York or London Stock Exchanges is long gone. The real trading is done automatically by robots. About three-quarters of trades on the New York Stock Exchange and Nasdaq are done by algorithms - computer programs following complex sets of rules.

Vlado Kysucky founder and director of BAEX Securities and Metafi investment platform (a company offering a competitive automated trading solution) comments that “Robo-Advisors can provide superior risk-adjusted performance in systematic asset allocation and eliminate substantial agency problems that are otherwise present in human and discretionary investment funds. Importantly, easy access to Robo-Advisors vastly improve financial prospects for many retail investors, who have no wealth management or trading guidance at all. Most robots periodically rebalance to the original asset allocation, which requires selling securities that have done well and buying more of the duds.”

Since Robo-Advisory came into the market there has been rapid increase in success stories as they continue to take up a larger market share every day.

Betterment – a US company that is credited as the oldest Robo-Advisor and has grown to the top of the heap. Betterment has $13.5 billion in assets under management, making it the largest of the independent Robo-Advisor firms.

With over $10 billion in assets under management, Wealthfront is another successful Robo-Advisor example. The majority of accounts pay a low 0.25% management fee. ETF fees charge a weighted 0.08% APR, which are among the lowest rates out there.

Another rapidly growing example is the U.K. based Robo-Advisor called Nutmeg that focuses on helping clients fulfil a variety of financial goals. Its low fees (between 0.45% and 0.75%) are attractive for investors looking to save by switching from traditional advisors. Founded in 2012, it has £1.5 billion under management and 60,000 clients in the U.K.

Estimates for the future Robo-Advisory market by several well-known institutes predict between $2.2 trillion and $3.7 trillion in assets to be managed with the support of Robo-Advisory services by 2020. By the year 2025 this figure is expected to rise over $16 trillion assets under management, roughly three times the amount of assets managed by BlackRock, the world’s biggest asset manager to date.

Should You Use a Robo-Advisor?

On the whole, Robo-Advisors offer high-quality, evidence-based investment portfolios at a low cost, making it easy for you to invest well no matter where you’re starting from. And it’s important to recognise that they are simply investment management tools, not comprehensive financial planners. They don’t ensure your success and they don’t help you navigate the complexity of your entire financial situation. But if you’re purely looking for a simple way to implement a high-quality investment portfolio, Robo-Advisors are a good choice.

 

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Comments: (1)

A Finextra member
A Finextra member 21 June, 2019, 14:06Be the first to give this comment the thumbs up 0 likes

DIY every time. No-one cares about my money as much as I do.

I have my portfolio and I'll re-balance once to twice a year, based upon my circumstances (I'm getting more risk averse with age). Rebalancing takes a max of 1 hour.

Can a robo-advisor or financial planner really assess my risk profile based upon a Yes/No questionnaire?

I want my costs to be as cheap as possible financial planners want paid. Robo-advisors have a cost attached - someone had to create the s/w and then keep it updated.

As for Nutmeg, when is a fee of between .45% and .75% low?!

Percentage based outfits may be good for investors when their portfolio balance is in the low 5 figures, after that fixed-fee is most likely the best course of action.

The reason for choosing a robo-advisor, that I can see, is convenience. 

Domile And

Domile And

Financial Analyst

BAEX Securities

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Amsterdam

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This post is from a series of posts in the group:

Behavioral Economics in Banking

Banks can’t predict user behavior with absolute certainty, but they can help frame their financial decisions by understanding how choices are made, and designing solutions around them. This group is for all things behavioral economics in the banking industry.


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