Robo-Advisers: Does Not Compute
The growth of firms selling computer generated financial advice is slowing
Given the many mistakes that human investors are prone to – selling after a market tumble, trading too often, believing they can beat the stockmarket – dealing with money is perhaps best left to computers. That is the premise behind a host of firms selling computer-generated financial advice, which assist savers tired of paying for pricey human counsel. The low cost of these “robo-advisers” had helped them grow rapidly, to the horror of conventional money-managers. But growth in assets under management (AUM) at the biggest outfits has sagged recently, and with it the upstarts’ prospects.
It used to be only those with hundreds of thousands of dollars to invest, if not millions, who could afford advice about where to put their money. Humans charge 1-3% of their clients’ portfolios every year, simply to rebalance among asset classes every so often and do clever things to minimise taxes. Robo-advisers, led by Wealthfront, a Californian outfit, and Betterment, based in New York, do much the same, but for a mere 0.25% or so a year.
Largely because they squash fees, robo-services do a good job for anyone bar the very rich with complex financial arrangements. A basic questionnaire – age, salary, investment aims and the like – helps establish risk appetite. Money is then allocated to low-cost funds provided by third parties. For those who believe, correctly, that fees and human error are the main pitfalls of investing, the approach is hard to beat.
Other features include snazzy smartphone apps (customers tend to be on the younger side), transparent pricing and low or no minimum investment. Wealthfront describes itself as the Charles Schwab of the millennial generation, widening access to investing by cutting costs, just as the discount stockbroker has done for baby-boomers since the 1970s.
But being very cheap means Betterment and Wealthfront need lots of assets to turn a profit. Their AUM of roughly $2.9 billion each, accumulated largely in the past two years, delivers revenues of $7m or so a year. That is not enough to sustain around 100 staff each as well as hefty marketing budgets. Total costs are likely to be $40m-50m a year, according to one fintech grandee (neither firm discloses the data).
Scale is vital, as every new client brings fresh revenue at little extra cost. AUM in the tens of billions of dollars, if not hundreds, will be needed to break even. The two firms’ venture-capital backers, which have poured over $100m into each, expect initial losses. But even they will hope for profits in years, not decades.
Last year the two firms’ AUM grew by over 10% a month, so doubling every seven months. Growth has since fallen to less than 5%. Wealthfront used to trumpet its AUM, but now reveals it only in regulatory filings. In August it was $2.6 billion; assuming it is now $2.9 billion (it says only that it is less than $3 billion), it will take a year and a half to double at its recent rate of growth. Betterment is faring only slightly better.
Adam Nash, Wealthfront’s boss, says AUM is a misleading measure, as it is affected by asset-price swings, such as the stockmarket slide of the late summer (largely reversed since). It might be that volatility has spooked potential investors. Both firms say customers are joining in big numbers, and that AUM will grow with their savings.
Competition from incumbent wealth managers will have hurt the robotic duo. Vanguard (which puts together many of the funds Betterment and Wealthfront recommend to clients) and Schwab have both recently launched robo-advisory services. These have grown quickly – Schwab’s now has $4.1 billion in AUM – if only by poaching existing customers. Robo-purists decry potential conflicts of interest.
In dollar terms, both Betterment and Wealthfront are still attracting over $100m a month – it is the second $100m that is proving elusive. Yet fintech firms usually count on their custom growing at exponential, not arithmetic, rates. If AUM growth does not pick up, both firms will have to raise prices, expand their offerings or put themselves up for sale. In August BlackRock, a giant asset manager, bought FutureAdvisor, a smaller robo-rival. That robots of the sort devised by Betterment and Wealthfront will direct an ever-larger chunk of investors’ cash seems inevitable. Whether such products can be sold profitably by startups remains in doubt.
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