At an initial glance, the value proposition of online automated advice and investment management is twofold: lower fees; and cost-effective access to professional portfolio management. But it is deeper than this.
“Robo-advice” models seek to engage customers who are disinterested in or dissatisfied with traditional financial services and advice. In addition, they seek to interact with an audience that is digitally savvy and expects its service providers to be the same. The target audiences for robo-advice can be quite broad: those who are younger and seeking digital engagement and expertise; and those who are older, educated, wealthy and DIY/digital savvy.
It is fair to say that “proof of concept” is yet to be fully validated. But uncertainty about the success of such models has abated a lot in the past 12 months; and the next two years will provide a much clearer view. Wealthfront (the best-known and largest robo-advice provider in the US) has raised more than $US1 billion in two-and-a-half years (assets have doubled in the past nine months). And Nutmeg in the UK recently raised $US32 million – much of it from traditional active fund managers such as Schroders.
It seems logical then that this type of offering should also be of interest in Australia – for many reasons (see list below). And from a regulatory perspective, the issues in providing online personal investment advice are pretty much the same as for any financial adviser in Australia. (Any personal advice activity is governed by the Australian Securities and Investments Commission (ASIC) and requires appropriate licensing, needs analysis, disclosures et cetera.) The real difference is the medium of interpersonal exchange (online), and the lower cost structure of advice delivery.
However, truly disruptive ideas will always be challenged by the incumbents (ask John Symond from Aussie Home Loans). And as you would expect, the voices “against” robo-advice often sit firmly in the incumbent advice/ business models.
What is robo-advice?
Robo-advice is the online automation of the advice component of portfolio management, fully integrated via technology. Investors begin by answering a series of questions (age, income, assets, time to retirement, goals and so on – much like an adviser fact-find process) through a website. A computer program takes this information and instantly produces a relevant diversified investment portfolio – usually of index funds and ETFs. The investor then purchases the portfolio through the provider and receives a range of services including trading, rebalancing, reporting and education. Fees range from 0.25 per cent a year to about 1 per cent a year. Better-known providers include Wealthfront and Betterment in the US, and Nutmeg in the UK. However, there are numerous other brands and business models, and they largely all target the same buying segment: self-directed investors.
As with home loans, credit cards, insurance, and other mainstream financial products, the shift to online has been common. These spaces have been invaded by lower-cost (and newer) providers such as iSelect, and also by existing providers (including the banks and general insurer AAMI) looking to meet demand by providing an alternate sales channel for their products and services.
The case for robo-advice
1. Investor dissatisfaction: Advice and wealth management industries in Australia have been constantly tarnished over the past seven years (by Centro, CBA, Basis Capital, Storm, et cetera) and it seems many investors want (and continue to want, based on new funds flow) more control. Note the rising popularity of self-managed superannuation funds (SMSFs).
2. More advice, more engagement, less asset management: The role of many non-aligned advisers continues to change – that is, why they prefer to be called “advisers”, not “portfolio managers” or “investment managers”. They choose to outsource some business skills (compliance, paraplanning, investments, insurance) and focus on managing the client relationships and meeting lifestyle and financial goals. Outsourcing components of portfolio selection and management frees them up to focus on productive activities such as asset gathering, finding new clients, engaging with existing clients and referral sources, estate planning, planning for their own business, or simply having some time away from the practice. They choose not to spend hundreds of hours a year poring over and picking managed funds and investments – often with limited resources and dubious relative and sustainable success. Ironically, the concentration and duplication of portfolios that many advisers construct and offer is unlikely to be a market differentiator or efficient allocation of time and money. The robo-advice model does require a “mind shift” in the way they choose to run their practice – but in reality, it is not that far removed from how they outsource client monies now to other managers, multi-managers and model portfolios.
3. DIY investors: Do-it-yourself investors are poorly serviced when it comes to assistance in building portfolios.
4. 10 out of 10 is unrealistic: A common statistic cited within the advice industry is that “only two in 10 Australians access the services of a financial adviser”. Whether by choice or need, it is simply not realistic to expect the other 80 per cent to all seek comprehensive financial advice. So the potential marketplace to meet the needs of the 80 per cent is compelling in size and opportunity.
5. Scaled advice: The institutional advice industry seems stuck on how to construct and deliver “scaled advice”. Here is a solution.
6. Unprofitable business: Most advisers simply can’t make money from clients with less than $75,000-$100,000 to invest due to the compliance burden and cost of delivering personal advice. The traditional business model is predicated on sizeable investable assets (greater than $150,000) and a percentage charge on those assets (1 per cent), generating “break-even” revenue of $1500 per annum. This leads advisers to target higher-balance (and revenue) “A” clients and look to sell off lower-value “C” clients they can no longer afford to service.
7. Technology now exists: The portfolio construction tools for this type of offering are now available using exchange-traded funds (ETFs) to build, adjust and maintain multi-asset-class portfolios in a low-cost, efficient and scaleable manner.
8. Market inefficiency: Much of the advice process and delivery of investment portfolios is inefficient or unscaleable. Industries such as this simply must change, and ultimately the application of technology will create competition to eliminate such inefficiencies. This is why we see venture capital firms funding the growth of “online advice”. They are not buying into traditional advice models, but attacking them.
For advisers seeking to maintain a “personal/face-to-face” client interaction model, the good news is there are lots of clients available. The bad news is that this is the area with most competition from other advisers, and soon from “online” providers.
Of course there will always be clients who want a more personal and traditional relationship and are looking for professional help to guide them through a complex financial world. And there will always be advisers with good relationship and engagement skills to meet this need.
Similarly, people are likely to (and should) seek advice at important lifestyle and financial turning points in their lives – and those advisers delivering advice via a “fee-for-service” proposition will be better placed to meet these needs.
Meanwhile, the younger and newer advisers will be the ones offering a modern investment advice proposition – the “smartphone” equivalent, rather than the old Nokia 3210 – not the older advisers, with more entrenched business models.
Australia looks increasingly ripe for online automated investment services, or robo-advice. This new advice model will compete in both existing and poorly-tapped segments. It will serve those investors seeking portfolio advice on their own “engagement terms” at a price that equates to their view on value. It represents a way for “new age” advisers and accountants to engage with certain clients in a more cost-effective, simple, efficient and profitable manner.
Writer’s note: I never enter a bank branch these days (my banker has changed four times in six years), but I can transact online happily and easily at a time of my choosing. My access to information and transacting is 24/7 if required. I buy shares and consumer goods online and read my news via smartphone and iPad. But my kids still think I am “old-fashioned”.