A robo-advisor is basically an online financial advisor that uses algorithms to help manage people’s financial plans and money. These advisors create and maintain a diversified portfolio for their clients using an automated investment process. Clients are first required to complete an online questionnaire that seeks to get information about the investor’s risk tolerance, time horizon and goals. With this data, the robo-advisor will come up with a tailor-made asset allocation (the combination of GICs, bonds, stocks and other assets), and then automatically distribute the investor’s monthly contribution to those assets. Majority of the robo-advisors in Canada utilize index EFTs (exchange-traded funds) in portfolio construction.
The portfolio management and asset allocation principles used by robo-advisors are derived from academic theories such as the Modern Portfolio Theory (MPT) by Harry Markowitz. Robo-advisor companies either charge a flat fee for their services or a percentage of the assets invested.
Robo-advisors fall in two main categories:
- An automated model – These are robo-advisors that offer investment portfolios 100% online, with minimal or no human interaction.
- A hybrid model – A hybrid robo-advisor allows consumers to work with a human investment advisor on subjects such as goal setting, estate planning and tax management.
Here are some of the benefits of using robo-advisors:
- Low cost – Since robo-advisors require little infrastructure and human involvement, their fees are much lower than those charged by traditional investment firms.
- Eliminates poor decision making – Investors often make poor choices when selling or buying investments, thus resulting in poor portfolio performance. Robo-advisors helps consumers by automating these decisions.
- Solid portfolios – Using proven academic theories as a guide, robo-advisors give clients access to efficient and well-researched portfolios that provide a balance between reward and risk.
- Tax efficient – Some robo-advisors use tactics such as tax loss harvesting to minimize the taxes paid by clients.
- 24/7 access – Clients can access their portfolios and the online tools any time of the day and night.
- Easy sign-up – Online, paperless registration is not only convenient, but also environmentally friendly.
Over the past few years, many robo-advisor firms have emerged in Canada. With all the options out there, choosing the right company can be quite a challenge. The first thing you need to do when comparing robo-advisors is to visit their websites. You should also look for online reviews such as this Wealthsimple review for more information.
Here are some of the things you need to look out for when researching different robo-advisors:
- Minimum deposit amount – The minimum deposit required to get started varies from one company to another. While some require nothing to create an account, others require a minimum of up to $50,000.
- CIPF affiliation – All the trusted robo-advisor companies in Canada are members of the Canadian Investor Protection Fund (CIPF). This means that your assets are protected from problems such as company insolvency.
- Positive Customer Reviews – A good robo-advisor will be rated positively online. Make sure to read the reviews on their website like this Wealthsimple review and on third party sites like the Google.
- Portfolio/Asset allocation – Find out if the portfolio/asset allocation methods used by the robo-advisor are based on sound principles. The portfolios should be well diversified and tailored for different levels of goals, time horizon and risk.
- Management fees/annual fees – Look for a robo-advisor that offers the lowest fee structures.
- Online security – Hackers are always looking for loopholes to infiltrate financial systems. Find a robo-advisor that has well-designed security protocols.
- Extra services and tools – Some robo-advisors offer additional services such as tax loss harvesting. Others come with tools like retirement calculators and fee calculators. All these extra services and tools could come in handy for any investor.
Rachel Slifka is a freelance writer and human resources professional. She is passionate about helping fellow millennials find success with their finances and careers. Read more by checking out her website at RachelSlifka.com.