What are Robo Advisors?
Robo advisors, also known as digital financial advisors, provide online investment management services using algorithmic or mathematical rules. They are programmed to provide automated investment advice using portfolio management algorithms. Robo advisors are categorized based on how much they are personalized and the amount of human interaction they need.
How Robo Advisors work
For a client to use a robo advisor, they must first create or register for an online account with one of the robo advisor service providers to be able to deposit funds into the account. The robo advisor will then allocate the funds to different investment products such ETF portfolios, futures, stocks, bonds and commodities, amongst others.
Robo advisors are designed by expert financial advisors, data scientists, and investment managers to operate with temperate to minimal human intervention. Programmers code the mathematical rules and algorithms designed by the financial advisors, data scientists, and investment managers into software that works online to provide advice to financial investors.
The robo advisors allocate, manage, and optimize client assets automatically using the programmed algorithms based on the desired target return and risk preference of the clients. And to do so, they use online questionnaires to obtain information about a client’s financial status, desired return on investment and degree of risk-aversion. Clients usually hold the discretion to choose between offerings with active asset management styles or those with passive asset allocation methods.
Advantages of Robo Advisors
The cost and time constraints of traditional human financial advisors have traditionally hindered many middle-class investors from obtaining financial portfolio management services. Human advisors and investment management firms impose high fees or steep minimum investment requirements making it too costly for middle-class investors to meet these financial obligations. The average minimum investment amount typically required by the traditional financial advisors is about $50,000.
On the contrary, robo advisors require very low thresholds with the minimum investment amount being as low as $500 in the US and £1 in the UK. Additionally, the robo advisors charge very low fees for assets under management compared to the traditional human advisors. On average, the robo advisors charge about 0.2% to 1.0% while traditional financial advisors charge an average of 1.35%.
Robo advisors are also easy to use especially when it comes to managing different asset classes. Although they lack the subjectivity and expertise provided by the human financial advisors, they provide investors with the tools and resources required to execute trades and build portfolios while also offering automatic rebalancing of their portfolio.