Robo-Advisor: Advantages and Disadvantages (2024)

The overriding idea behind robo-advisors is that the company's proprietary algorithm takes the emotion out of investing and helps the investor achieve better returns for a lower cost than traditional (i.e., human) financial advisors.

Robo-advisors are digital investment platforms offered by brokerages. This catch-all term includes investment managers and software that use complicated computer algorithms to administer your investment portfolios. Some robo-advisors are entirely automated, while others offer access to human assistance. Regardless of the model, they all provide customer service to assist you through the process.

Here's a look at some advantages and disadvantages of this relatively new and ever-expanding investment management solution.

Key Takeaways

  • Robo-advisors are digital investment services aimed at ordinary investors—they are becoming an increasingly popular way to access the markets.
  • On the plus side, robo-advisors are low-cost, often have no minimum balance requirements, and tend to follow strategies suited for new and intermediate investors.
  • On the minus side, robo-advisors do not offer many options for flexible investing, and they reduce the human interactions that are sometimes critical when investment planning.

Pros and Cons of Robo-Advisors

Cons

  • Limited Personalization

  • Limited Flexibility

  • No Human Contact

  • Can Be More Costly Than Doing it Yourself

Advantages of Robo-Advisors

Lower Fees than Financial Advisors

Before robo-advisor platforms, you were lucky if you received professionally managed investment assistance for less than 1% of assets under management (AUM). Automation has significantly changed that paradigm, and there are many low-cost robo-advisors to choose from. For instance, Charles Schwab's Intelligent Portfolios come without advisory fees or commissions, while the Wealthfront and Betterment models also favor cost-conscious consumers.

Robust Investment Models

Betterment and many robo-advisors' algorithms rely on Nobel Prize-winning investment theory to drive their models. Generally, best practices investment theory strives to create an investment portfolio with the greatest return for the smallest risk. Some of the best robo-advisors use cutting-edge investment portfolio research informed by modern theories to drive their products.

Easy to Open an Account

It's becoming more common for traditional financial planners to "white label" robo-advisors' platforms for their clients. This takes the cumbersome task of choosing assets out of their hands so that financial advisors can spend more time with their clients addressing individual tax, estate, and financial planning issues.

Robo-advisors can require as little as $0 to open an account and start investing, making them a good option for young people who are just starting to work and invest.

Some consumers—like younger investors or those with a lower net worth—may not have considered professional financial advice. However, robo-advisors are growing the existing market of financial advisory clients. Because robo-advisors provide easy access and lower fee models, more consumers may choose this type of professional management in lieu of the do-it-yourself investing model.

May Have Lower Account Minimums

Investors with a small net worth can get professional financial management through a robo-advisory service. With zero and near-zero minimum balance, technology-enhanced robo-advisors include Betterment and Folio Investing. Other robo-advisors are accessible with $1,000 to $5,000 to get started.

An advisor such as Rebalance360 has a higher barrier to entry, with a minimum entry fee of $500,000. That said, even the robo-advisors with high entry requirements are more accessible than the financial advisors with $1 million portfolio minimums.

For example, if you're interested in a specific sector or investment theme, some advisors have hundreds of portfolios to choose from that could fit your needs. On the other hand, if your primary concern are rock-bottom fees, there are several robo-advisors with broadly diversified low-fee exchange traded fund (ETF) portfolios. Some robo-advisors also include services like rebalancing and tax-loss harvesting in their arsenal.

As the technology advances, there will be more services offered by robo-advisors and more choices for investors.

Disadvantages of Robo-Advisors

Limited Personalization

Robo-advisors can be configured or programmed to meet the needs of many investors by allowing you to set and edit your goals using their financial planning software. However, they don't consider that you also may have money-related issues and concerns. You may benefit from talking to a human being who can help tailor your investment plan to your specific situation.

Limited Flexibility

If you want to sell call options on an existing portfolio or buy individual stocks, most robo-advisors won't be able to help you. There are sound investment strategies that go beyond an investing algorithm. Sophisticated and even some newer investors may want a broader investment portfolio with a wider range of asset classes than the typical robo-advisor offers.

No Human Contact

If you want a relationship with your financial advisor, then most robo-advisors aren't for you. Robo-advisors don't have an office where a client walks in and talks directly to an advisor. This type of personal contact is relegated to the traditional financial advisory models.

Most robo-advisors will not hold your hand and comfort you after a significant market drop. In contrast, a humanfinancial advisor can be available to assuage your fears and explain how the investment markets work. Whereas a financial planner can integrate your finances, taxes, and estate plans, robo-advisors lack this human touch and have no capacity to take a holistic view of your financial life.

Can Be More Costly Than Doing it Yourself

Robo-advisors often charge fees, which will vary depending on your account balance. For example, Betterment charges a monthly fee of $4 for accounts with low balances. This fee automatically switches to 0.25% annually once the account grows to above $20,000 or if there are monthly recurring deposits of $250 or more. Also, note that your money will often be invested in ETFs. Even though these ETFs often have a low expense ratio, this is an additional cost that should be factored into your total cost.

Robo-advisors use algorithms to automate trading. Robo accounts can be accessed through the internet and your devices.

Evaluating Robo-Advisors

When deciding whether to use a robo-advisor or choosing a platform, one critical issue is how an advisor performs compared to its benchmarks. Is the robo-advisor's portfolio outperforming the returns of the broader market or more passive investing strategies like holding index funds and exchange-traded funds (ETFs)?

Of course, the ups and downs of the overall market have an impact on the investments selected by the robo-advisor's algorithm. Over the past three years, robo-advisor returns have mirrored the pandemic downturn and the subsequent recovery. However, for a robo-advisor to prove its worth, it needs to exceed market returns on a consistent basis.

Condor Capital Wealth Management publishes a quarterly assessment of robo-advisory platforms, analyzing their returns over the trailing one-year, three-year, and five-year periods. The Robo Report for the first quarter of 2023 considered 42 accounts at 27 different robo-advisory providers to see how they stack up. One of Wealthfront's portfolios sits atop the rankings for generating the best returns over the past three years and the past five years, having benefitted from its allocation to energy stocks.

Are Robo-Advisors Safe?

If you're considering a robo-advisor, you may be concerned about trusting your investment decisions to an algorithm. On the surface, robo-advising is just as safe as working with a human financial advisor. A robo-advisor's platform may include biases or errors that prevent it from achieving the best investment returns, but then again, humans are also subject to mistakes. One potential drawback is that robo-advisors are built on data from the past and may be less capable of responding to unanticipated developments in the markets.

Are Robo-Advisors a Good Investment?

Like any type of investment, determining whether a robo-advisor is right for you depends on your goals and preferences. Given their low cost and low minimums to get started, robo-advisors could represent an attractive option for people who are newer to investing or have smaller amounts to invest. However, robo-advisors offer limited flexibility to customize your investment strategy, and they can't provide more integral financial advice that accounts for things like tax and estate planning.

Which Is the Best Robo-Advisor?

When determining the best robo-advisor to meet your investing needs, there are several key factors to consider. In addition to fees and potential minimum investments, you will likely want to look for a user-friendly platform with solid tools to help you construct and manage your portfolio. You can also think about other issues that may be important to you, like socially responsible investing or mobile functionality.

The Bottom Line

The robo-advisory sphere is changing the game by lowering fees while allowing more investors to benefit from professional asset management. As with any life choice, you should determine what type of investment guidance you need and select a robo-advisor or financial professional to suit your style.

Robo-Advisor: Advantages and Disadvantages (2024)

FAQs

What are the advantages or disadvantages of using a robo-advisor? ›

Consider these advantages of robo-advisors before you hire a financial planner.
  • Low Fees. ...
  • Automated Rebalancing. ...
  • Diversification. ...
  • Accessibility. ...
  • No Emotional Investment Decisions. ...
  • Limited Flexibility & Personalization. ...
  • There's No One to Manage Your Emotions. ...
  • Limited Human Interaction.

What is one of the biggest downfalls of robo-advisors? ›

Limited human interaction: Robo-advisors do not offer the same level of human interaction as traditional financial advisors. This can be a disadvantage for investors with more complex financial needs or investment goals.

What are the problems with robo-advisors? ›

Robo-advisors lack the ability to do complex financial planning that brings together your estate, tax, and retirement goals. They also cannot take into account your insurance, general budgeting, and savings needs.

Do millionaires use robo-advisors? ›

Digital Advisor Use Dropped in 2022

High-net-worth investors exited robo-advisor arrangements at the highest rates.

What are 2 advantages of using a robo-advisor? ›

In addition to creating an automated portfolio, robo-advisors can also offer their customers the following benefits: Lower fees compared with a traditional financial advisor. Lower capital required to start. The ability to avoid human error and bias.

What are the advantages and disadvantages of advisors? ›

The benefits of becoming an advisor include unlimited earning potential, a flexible work schedule, and the ability to tailor one's practice. The drawbacks include high stress, the hard work needed to build a client base, and the ongoing need to meet regulatory requirements.

Can you lose money with robo-advisors? ›

Yes. As with any form of investing, there's always a risk of losing money when using a robo-advisor. Markets can be unpredictable, and no form of investing is immune to potential losses.

Can you trust robo-advisors? ›

Are Robo-Advisors Safe? Robo-advisors are as safe as traditional investment services. All investing carries risks. You could choose bad investments and lose your money.

Why robo-advisors failed? ›

Robo-advice remains too much of a solution looking for a problem. As a pure end-to-end D2C solution, it is doomed to failure. Nevertheless, as advisers, there is no room for complacency.

Do robo-advisors beat the market? ›

This will vary significantly depending on the risk profile of the portfolio, broader market conditions, and the specific robo-advisor used. Some robo-advisor portfolios may outperform the S&P 500 in certain years or under specific conditions, while in others, they underperform.

Do robo-advisors beat human advisors? ›

The type of advisor that is better for you depends on what your financial needs are. For core investing and planning advice, a robo-advisor is a great solution because it automates much of the work that a human advisor does. And it charges less for doing so – potential savings for you.

How much does a robo-advisor charge? ›

Funds' expense ratios: The robo-advisor will invest your money in various funds that also charge fees based on your assets. The fees can vary widely, but across a portfolio they typically range from 0.05 percent to 0.25 percent, costing $5 to $25 annually for every $10,000 invested, though some funds may cost more.

What is the average return on a robo-advisor? ›

Robo-advisor performance is one way to understand the value of digital advice. Learn how fees, enhanced features, and investment options can also be key considerations. Five-year returns from most robo-advisors range from 2%–5% per year.

Which is the best robo-advisor? ›

Fidelity's robo-advisor, Fidelity Go, frequently makes our list of the best robo-advisor for its low fees — including free management on balances below $25,000 — integration with other Fidelity accounts and its use of Fidelity Flex funds, which have no expense ratios.

Should I use a robo-advisor or invest myself? ›

It ultimately comes down to your personal preferences, investment goals, and lifestyle. For example, the best robo-advisors offer specialized services like tax-loss harvesting, which may be important for some investors. Indeed, the choice between a robo-advisor and self-directed investing is personal.

Is it a good idea to have a robo-advisor? ›

Key Takeaways. Robo-advisors can be worth it for set-it-and-forget it investors who want automated, diversified portfolios. These low-cost, low-minimum platforms are ideal for novice investors seeking competent portfolio management.

What is the average fee for a robo-advisor? ›

Management fee: This fee typically costs 0.25 percent to 0.5 percent of your assets on an annual basis, though fees may be lower or higher. So every $10,000 invested would incur management fees of $25 to $50 each year based on those percentages.

What are some advantages of using a robo-advisor over a traditional financial advisor? ›

Robo-Advisor
  • Low Cost.
  • Simplicity of Process.
  • Ability to tailor portfolios to individual's goals and risk tolerance.
  • Ongoing portfolio management and automatic rebalancing.

What is a robo-advisor best suited for? ›

Robo-advisors are often inexpensive and require low opening balances, making them available to retail investors. They are best suited for traditional investing and aren't the best options for more complex issues, such as estate planning.

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