You’ve heard the old expression, “It takes money to make money.” That certainly holds true when it comes to investing in the stock market. Many financial management institutions won’t touch you unless you meet their sizable minimum investment thresholds. Then they charge significant fees for any service they provide. And it doesn’t take just money to make it in the market. It takes knowledge and confidence, too. These obstacles often discourage beginning investors from entering the market at all.
Enter robo advisors. A simple way to get the investment guidance and market access you need at a cost you can afford.
Huh? What’s a robo advisor?
Think of robo advisors as investment managers for the masses, not millionaires. That’s not to say that millionaires don’t use robo advisors. Since the technology’s inception in 2008, many traditional investment firms have incorporated robo advisors into their operations. But robo advisors have made it easier for people with more moderate incomes to take advantage of the income and tax benefits of investing. And while they’re made of artificial intelligence, not flesh and blood, they use the same mathematical principles (algorithms) that human advisors do to make stock market predictions and manage your money accordingly. The best robo advisors are largely as smart but less costly and more convenient to use than traditional advisors.
How does robo advising work?
Robo advisor relationships begin with goal- and limit-setting. How much you can budget for investment? How much do you hope to earn and over what time frame? How much risk you are comfortable with? Based on your answers, your robo advisor puts together a diversified portfolio of investments, allocating your dollars across common investment categories like stocks, bonds, and cash. Robo advisors also perform periodic reallocation of your investments to help you meet your goals. Some robo advisors also perform tax-loss harvesting—a process that helps you offset tax liability from portfolio gains with strategically selected, deliberate losses. But perhaps one of the best things robo advisors do is take the emotion out of investing. That’s something many investors find hard to do when self-managing their portfolios.
How should I pick a robo advisor?
Carefully, of course. It’s your financial future we’re talking about. Compare several services. Research the features each offers and pay attention to the management, withdrawal and transfer, and trading fees it charges. Find a service that offers easy-to-use PC and mobile apps. Some robo advisors are committed to socially responsible investing so consider whether that’s one of your priorities, too.
It’s also important to choose a robo advisor that commits to acting as your fiduciary—meaning in your financial interest exclusively. That seems like it should be a given with any company providing financial advice, but it isn’t.
And while investing in securities always involves some risk, you can protect yourself by choosing a robo advisor that’s insured by the Securities Investor Protection Corporation, (SIPC). SIPC insurance reimburses you for funds you give your robo advisor should the firm go belly up—buy only before those funds are invested. That’s not the same as FDIC coverage which protects the funds held by your bank. But certificates of deposit (CDs) and saving accounts typically can’t match the long-term ROI that stock market investments have a track record of providing.
What can’t a robo advisor do?
Uhmmm…take you out for martinis to celebrate a big win? Robo advisors can’t do a lot of hand-holding. For some people, that’s a drawback. Others have become so accustomed to doing business digitally that human interaction in a business context seems inefficient. Consider carefully where you stand on that continuum. Most robo advisors are capable of handing you off to a human advisor when necessary, but that service may be reserved for investors who meet high minimum balance requirements. And that human touch does come at a price.
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