Graham’s Centrelink/robo analogy raises a valuable point that if the fact-find has deficiencies, then the outcome is likely sub-optimal. I think the analogy is a bit too harsh in that the Centrelink issue was a ‘behind the screen’ data matching problem. That is, it didn’t ask the end client for any input about their current circumstances. However, there is no reason why a computer interface can’t ask the relevant questions, it simply relies on the smart minds coding the programme to be given the right instructions. The first versions of digital wealth managers (robo 1.0 if you like) do have online fact-finds that engage the client (albeit there is a range of depth to these).
Robo 1.0 as a ‘fund of funds’
The robo 1.0 advisers are a ‘fund of funds’ approach via an online interface. Fund of funds investment models have been around for decades (in human form) and the robo 1.0’s that I have seen are simply a better – that is, rigorous, lower cost, and convenient – approach to what was previously done via pencil and calculator. Think of it as applying statistics to what was previously predominated by ‘gut feel’, much like the Oakland A’s Billy Beane’s approach to using statistics in the selection of baseball players to drive the A’s to the top of the league (popularised in the Michael Lewis book, Moneyball). This approach of statistics and rigour to selection is now widespread across professional sports because it worked.
Robo 1.0 sits as a viable alternative to consider alongside any other fund manager choice. At its core, it uses the power of passive indexing and academic research that shows up to 90% of portfolio volatility is explained by asset class selection. It concentrates on diversification across asset classes, and within an asset class, via the index fund (or more likely Exchange Traded Funds or ETFs) selection. It is relatively safe and dependable for those who take a ‘set and forget’ long-term approach to their portfolio.
One of the drawbacks of this approach is the fact that you need to liquidate your current portfolio, and send the money to the robo to invest into the underlying basket of ETFs (a fund of funds structure). This liquidation means incurring any relevant capital gains taxes. This is perhaps why the client skew is heavily toward millennials. They are early in their investment journey where this capital gains hurdle isn’t such a barrier to adoption.
Robo evolution, technology and humans
You shouldn’t think this is the end of the robo technology story. Consumers of all services are increasingly comfortable with the benefits technology can bring. It is perhaps better to view the ‘robo’ industry through the lens of the mobile phone industry. Robos are probably past brick phones and are up to at least flip phones, not yet at, but rapidly heading toward, smart phones (remember even before the iPhone 7 came six generations of iPhones!). Technology moves forward and looks to solve consumer pain points.
The digital wealth advice (robo) industry is evolving as well. It is rapidly moving more to ‘human augmented advice’ rather than resting on its laurels at fund of funds via ETFs. This means it is moving to a process-automation approach, and this approach is best delivered through a hybrid model – human assisted digital wealth advice rigour if you like. This model is exemplified by Vanguard in the US where they have had overwhelming success. The client numbers and funds onto their platform via their human assisted approach is testament to this.
Others such as Schwab, Merrill, UBS, Raymond James and even Wealthfront and Betterment have either launched or announced plans to launch human adviser assisted ‘robo’ offerings into the US market. Yes, human augmented is most likely where it all starts to really impact the industry. The Vanguard Personal Advisor Services model is delivered via a call centre approach rather than traditional face to face meetings. Smart phone video call technology is accelerating this trend. It includes the cost efficiencies of an ETF approach, but coupled with the ability to interact with a human for that ‘sounding board’, confidence and discussion regarding specific personal nuances.
The Vanguard approach still has the limitation of being a fund of funds model, so the liquidation on entry issue isn’t solved. The best of breed will be those that can handle legacy assets, in other words, look at a current portfolio as it stands and give advice about how to ‘fix it up’ whilst minimising costs. Think of it as the mass customisation of portfolio advice, or individually-advised accounts at scale. Computers are excellent at this sort of problem solving, especially when boundaries are set by a human operator.
In my opinion, the reason for the human-augmented model success is the blending of a lower cost with the ability for the human adviser to perform the role of investment and planning coach. Often this is as much about psychology of the investor, which the industry is now calling ‘gamma’ (ie beta = market risk, alpha = selection risk, gamma = emotive risks, or the behavioural biases that affect your investing. Computers are methodical, they don’t do gamma well (except in sci-fi movies).
Where do I think the industry will get to?
Like everything in business, the winning approach is the one that produces the most convenient customer experience of the desired quality at the lowest price point. The ‘experience’ a consumer wants in advice varies over time depending upon the advice needs. Sometimes it is just portfolio rebalancing, at other times it is more strategic around estate planning, tax strategies or establishing investment vehicles.
I expect to find the professional practice of the future to include all three levels of engagement under one roof. Online 24/7 self-serve for simple matters I can do myself, video call for when I feel comfortable but want a sounding board, and face-to-face for when I have a complex issue and I want to talk through scenarios.
At all three levels the core will be an ‘advice engine’ (the robo) that does the donkey work (hat tip Chris Cuffe for that term) of number crunching cost effectively.
Digital wealth advisers (the politically correct name for ‘robos’) will be an integral part of the future – just like smart phones – but that future is also most likely to be embedded into a human assisted overlay. People engage best with people.
John O’Connell is Chief Investment Officer at Macquarie BFS and Founder, OwnersAdvisory by Macquarie, a digital wealth adviser and a sponsor of Cuffelinks.