Already established in the US, so called “robo-advisors” have started to make a splash here in Canada. In a nutshell robo-advisors are simply online portfolio management firms.
Their target market seems to be those investors looking to keep fees down through passive index investing (typically cheaper than actively managed mutual funds) but who aren’t ready to take the plunge into do-it-yourself investing. To clarify (and simplify a little) assume index funds and ETFs are one and the same.
No Chit-Chat – All Business
Robo-advisors work with clients to build customized portfolios of ETFs and/or index funds. Just don’t expect to walk into their office for a face-to-face in their fancy client meeting room (that you paid for) because well…it doesn’t exist. To go with a robo-advisor, you need to be comfortable with the idea that online exchanges will be predominate, with some phone likely mixed in.
Beyond building a portfolio of low-cost index investments, the second tenet of “robo” investing is the scheduled rebalancing of your portfolio – normally once a year and without your involvement.
Rebalancing simply means buying and selling amongst your existing investments (assume this comprises 3 – 6 index funds) to bring the value of each fund back to your day 1 agreed upon asset allocation percentage (i.e. 30% Canadian equity, 20% US equity, 20% Canadian fixed income etc). Proponents of rebalancing (and I’m one of them) like to describe rebalancing as the act of “buying low and selling high.” Well sign me up! Put me in coach!!
You can expect low cost passive index investing with regular and automated rebalancing working with a robo-advisor.
Cutting Investment Fees
Before comparing to some investing alternatives, let’s talk fees. The fee structure is straight forward: Robo-advisors typically charge an “all-in” fee, calculated as a percentage of the value of your portfolio (aggregate value of all your index funds). The going rate seems to range from 0.4% up to 0.75%; on an annualized basis. Don’t focus so much on this range but rather the variance in relation to actively managed mutual fund investing (the most common form of investing for Canadians) – which is usually 1.5% – 2.5% of your portfolio (more on fees below).
I already mentioned the fee spread between actively managed mutual fund and passive index investing with a robo-advisor is about a 1 – 2%. What’s important here is the impact of this spread in dollars. Every investor’s situation is unique of course but with no hyperbole (what a great word), I can safely say over the course of 30-40 years saving for retirement, and assuming a 1% savings in fees, the average investor will save tens of thousands of dollars and hundreds in a lot of cases. Is your advisor giving you advice/other services so grand so as to bridge a gap this large? My pervious advisor sure did not. This of course ignores investment performance so don’t go and fire your advisor just yet. Instead look for a future post taking a deeper dive into the active vs. passive investment debate (spoiler alert: passive wins out for nearly all investors).
Beware there may be secondary fees depending on your Robo-advisor of choice (I name a few at the end…you can you make it!). To the upside (in theory) there may be other services (i.e. annual portfolio review, access to research etc.) covered with the percentage of portfolio “all-in” fee. These are both no-brainer topics to sort out when sourcing any advisor: explanation of all possible fees and services to be received.
Fees VS Value
To compare and contrast advisor alternatives let’s start with services. Robo-advisors will not be your one stop shop personal financing planner integrating all financial aspects of your life: investing, insurance, mortgage and debt servicing, will and estate, tax minimization, retirement planning…and the list goes on. Key here is making an honest assessment of what financial planning services, beyond straight investing, you currently receive from your existing portfolio manager, investment advisory, mutual fund advisor (some prefer mutual fund salesmen). Ask yourself if the status-quo services being received fully bridge any gap between your existing cost and the ~0.6% charged by a robo-advisor.
Let’s look at one specific example to illustrate. Before wising up more recently, I invested in mutual funds for a decade plus, paying 2.5% all along. And what services were received apart from investing my money in the hot mutual funds of the day? Nothing! The only time I spoke to the guy was when I had more money to dump in. In fairness, the entire 2.5% didn’t go to him; his take was likely a trailer commission of 0.75% or so (the rest went to the company running the fund). My portfolio was small, I was young, blah blah blah; so I wasn’t an ideal candidate for advance financial planning but accept the point: selecting an advisor (I use the term loosely) is a value proposition – do you receive value for services when considering the cost (and alternatives)?
A final tip on fees that is lost on many investors (myself included for some time): in comparison to mutual funds salesmen/advisors (take your pick), the more highly esteemed portfolio managers are more likely to work on a slightly different fee structure than the sole structure described thus far being as a percentage of the investment portfolio. They normally start by charging a percentage of the portfolio (usually 1% or less – markedly better than active mutual funds) but then throw in the costs to buy and sell your investments for good measure. In other words, if they take your money and turn around and invest in a mutual fund that charges the usual 2% (not the most common scenario but it does happen), you’re paying 3% in total. It is crucial you ask and get comfortable with the cost of transacting in addition to the straight fee as a percentage of investments. To be fair, portfolio managers are much more likely than mutual fund salesmen to provide those other financial planning services I described earlier as part of the 1% fee – which gets back to the value proposition idea.
Have I piqued an interest? Here are a few Canadian Robo-advisors you can google: Wealthsimple, Nest and WealthBar.
Successful outcomes in life are usually the result of being proactive and committing yourself to the outcome (luck doesn’t hurt either) – investing is no different. I encourage you to do a little research and see if a Robo-advisor is right for you.
Disclaimer: admittedly I have zero firsthand experience working with a Robo-advisor. Comments from those with actual experience sure would be swell! In particular if I overshot somewhere or missed a key point.
The author, Pat Kenney, is a Certified Professional Accountant. He has worked in public practice at a local boutique CPA firm in Mississauga for 9 years. He currently holds a senior management position.