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In the early 20th century, trading stocks was very different than it is today. Investors would trade either by physically visiting a stock exchange or by calling a stockbroker.
Of course, no one had computers at the time, nor did mutual funds exist. This meant that investors largely traded individual securities without the luxury of internet research.
Fast forward to today, and things are much different. Investors have a variety of ways to invest as well as a wealth of information to help make good decisions.
Now, Robo-advisors are making things even easier. This style of investing allows you to put everything completely on autopilot.
As a result, your money continues to grow with no ongoing maintenance necessary. That is the magic of Robo-advisors; all the power of investing without all the work.
This makes them perfect for the average investor who leads a busy life and can’t spend much time managing their portfolio.
What is a Robo-Advisor?
Robo-advisors are services that provide automated, algorithmic investing. Typically, the investing service will show you a questionnaire that asks about things like how many years you have until retirement, your risk tolerance, and your desired retirement income.
Some Robo-advisors are almost entirely automated; others automate a part of the process while still giving you some control over your investments.
You have probably heard of popular Robo-advisors such as Betterment, which launched in 2008. After you answer the initial questionnaire, Betterment fully automates your investments.
The only thing you can control after the setup process is the percentage of stocks vs. bonds in your portfolio. Betterment manages the rest (this Betterment review will give you an overview to help decide if it’s the right company for you).
Other Robo-advisors, such as M1 Finance, give you a lot more control (get the rundown from this M1 Finance review). It allows you to create custom portfolios and fill them with anything you want, whether that is stocks, bonds, or ETFs.
M1 also asks what percentage you want each of these assets to be and shores them up on an ongoing basis to be sure they match your target allocation.
Whichever approach you prefer, Robo-advisors take a lot of the hassle out of the equation.
Benefits of Robo-Advisors
Now that we know what Robo-advisors are, let’s go into detail on all of the benefits of these automated investing tools. Some of them may already be obvious, but some may be new.
1. Save Time
This is mentioned first because it is undoubtedly the most important benefit. Stocks and bonds are great assets to hold, but time is your most valuable asset.
Think about it: do you really want to spend hours every pay period buying shares of stock? Worse still, if your portfolio is even moderately complex, you’ll have to spend even more time rebalancing.
If you happen to be new to investing, you may wonder what rebalancing is. To give a simple example, imagine your portfolio consists of four exchange-traded funds (ETFs), 25% each.
If one of those funds performs extremely well, and another one performs poorly, the good performer might end up being 35% of your portfolio, while the poor performer is 15%.
With automatic rebalancing, the Robo-advisor automatically rebalances your portfolio so that each of the ETFs is weighted at 25% without any work needed from you. All you have to do is set a target allocation when getting started; the Robo-advisor does the rest.
All of this means your money will continue to grow and you’ll have more time for the things that really matter.
2. Save Money
Believe it or not, Robo-advisors don’t just grow your money – they can actually save you money, too.
How do they do this? Primarily through tax-loss harvesting. This process is a bit complex, but the easy way to understand it is that tax-loss harvesting reduces your tax liability. That means owing less on your tax return at the end of the year.
In addition to the money saved by tax-loss harvesting, Robo-advisors make it easy to invest in low-cost index funds. Traditional investment advisers can charge 1-2% in management fees.
While this may not sound like much, it can add up to tens or even hundreds of thousands of dollars over the course of a lifetime.
In contrast, Betterment charges just 0.25% in management fees. And, remember, that fee allows you to completely automate your portfolio.
3. Reinvest Dividends
For some investors, they plan to live off dividends. If income generation is the goal, dividends can be a nice way to bring in some extra earnings. However, if your main goal with investing is to grow your wealth, you may prefer to reinvest your dividends instead.
Robo-advisors can do just that. Betterment, for example, reinvests dividends automatically. And, as an added benefit, reinvesting dividends helps Betterment rebalance your portfolio in a more tax-efficient way.
4. Eliminate Human Error
Human error can (unfortunately) take many forms. We might like to think we’re perfect, but the reality is that we all make mistakes from time to time.
Whether it’s buying VTIP instead of VTI or buying the wrong number of shares, these one-letter or one-number can have a huge impact.
When you use a Robo-advisor, you eliminate these silly human errors that could wreak havoc on your portfolio.
5. Make it Easier to Stay Motivated
It’s not always easy to stay motivated to keep investing. Whether it’s due to a bearish market or due to changing life circumstances, many things can make us second guess ourselves if we’re doing it all on our own.
Because Robo-advisors give us the opportunity to put our investments on auto-pilot, we don’t have to log into our accounts as often.
When we don’t have to look at our investments constantly, we don’t have to think about them. As a result, we’re less likely to think about getting out of the market.
Yes, the market may have its ups and downs, but the market always goes up in the long run. Robo-advisors make it easier to stay invested in the market and reap the long-term rewards.
Are Robo-Advisors Right For You?
Robo-advisors are great for the average investors who don’t want to spend hours managing their portfolio every month. That’s because they do the heavy lifting for you, allowing you to be a totally passive investor.
Of course, Robo-advisors aren’t ideal for everyone. Those who prefer day trading in order to maximize returns may simply need an individual brokerage account.
But day trading is also a big-time commitment and is certainly not without risk.
Those who prefer a simpler, safer approach to investing that requires almost no time commitment will benefit from Robo-advisors. Also remember that some Robo-advisors such as M1 Finance do give you some degree of control, allowing you to create custom portfolios.
Would you rather have your investments managed by a system with a proven record of success so you can spend more time on things that really matter in life?
If so, a Robo-advisor might be a great way to make that happen.
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This content is brought to you by Bob Haegele.
Photo: Shutterstock