The rise of robo advisors—or automated investment services, if you prefer—is one of the defining and important themes of 2015.
These firms, including Wealthfront, Betterment and others, use the power of Web technology and ETFs to deliver institutional-quality portfolios to investors at low costs.
Wealthfront, the market leader, builds well diversified portfolios for clients that are designed by investing legend Burton Malkiel to sit precisely on the so-called efficient frontier—the place where decades of academic research suggest you get the most return for a given level of risk.
These automated advisory services tailor portfolios to each investor's risk tolerance, and offer different portfolios for taxable and nontaxable accounts, with free trading, rebalancing, tax-loss harvesting and custodial service. All of this is tied into a nice bow and with typical fees of $0 on the first $5,000 and 0.25% for all assets above that.
Compare that with the 1-2% fee charged by most financial advisors, and you can see why these firms are disruptive, and attracting assets, particularly from millennials.
So far, asset growth at the robos has been fast … but small.
Wealthfront leads all firms, with close to $2 billion, and the numbers fall off from there. But robo advisors are backed by some of the smartest and most ambitious venture capital money in the world. Wealthfront alone raised more than $100 million in venture capital money in the past year from firms like Index Ventures, Ribbit Capital and Greylock Partners. The firm has said it expects to grow its assets by tenfold every few years.
Driving home the point, larger firms are joining the race quickly. Charles Schwab is expected to launch its own robo-advisory business in the first quarter of 2015, and Vanguard already has a "bionic" advisory service in place that pairs online offerings with access to human advisors by phone.
ETFs changed the game by making institutional-quality products available to all investors at extraordinarily low costs. These new robo advisors do the exact same thing for asset allocation services.
The financial industry will never be the same.