By 2020, the A.T. Kearney 2015 Robo Advisory Services Study estimates robo advisors will manage some $2 trillion. This growth represents both organic growth and shifts from traditional financial advisors. The most significant impact of the growth of robo advisors is a loss in asset management revenues for those traditional financial advisors.
Two major areas in which robo advisors score higher than traditional financial advisors (FAs) are their ease of access, and lower fees and investment requirements. Aggressive entry of established industry leaders such as Charles Schwab and Vanguard into the robo advisory segment is likely to change the dynamics of service delivery both for both traditional FAs as well as for online-only robo advisors. These industry leaders have lowered both the investment minimums and fees for the robo advisory segments, too.
In the long run, it is important for traditional financial advisors to understand and adapt to changes in the market by recognizing the key characteristics of robo advisors, their impact on traditional FA practices, and how their weaknesses can be translated into growth strategies for financial advisors.
Robo advisors are targeting the next generation of clients, such as the technology savvy Generation Y and Generation Z clients, and clients who would not normally be serviced by financial advisors because of their smaller investment base. The profile of investors currently using such robo advisors are typically younger investors with a smaller asset base, technology savvy, and “do it yourself-ers.” According to Wealthfront, one of the leaders in automated wealth management that manages close to $2 billion in investor assets, more than 60% of their clients are less than 35 years old. Given the ease of accessibility to the robo advisors, many analysts also view them as another distribution channel for mass market access to portfolio management services. Financial advisors will need to create a value proposition for their clients that can compete with the fact that robo advisors are available to clients around the clock, 365 days of the year: investment decisions do not always have to be made during traditional office hours.
Pricing is an area where robo advisors have a clear edge over traditional advisors. This is because robo advisors clearly spell out their pricing structure, and most of them have very low to no minimum investment requirements. Market leaders such as Wealthfront and Betterment charge only 0.25% fees for investments over $10,000, while Schwab Intelligent Portfolio charges no advisory or account service fees, or commissions, and has a minimum investment of only $5000. Traditionally, financial advisors are believed to charge about 1% fee with a significantly higher minimum asset requirement. With the downward pressure on fees likely to continue and grow, there is a need to look at alternate ways to sustain and grow revenue for traditional practices.
Strategies to consider
- Integrate technology with service delivery and increased online presence for greater visibility to Gen Y and Z clients. With Gen X fast moving towards retirement, and Gen Y and Z slowly replacing them in the work force, robo advisors are targeting the clients of the future. Technological integration to meet this challenge could be a two-pronged strategy for growth:
- Integrate robo advisor services for the practice through partnerships with existing online-only robo advisors. According to Steve Lockshin, founder of Convergent Wealth Advisors, with more than 200 robo advisors in the market today, having limited funding and assets under management, a shakeout is imminent. This could be a win-win situation for traditional advisors to partner with them.
- Ensure an online presence and visibility through effective communication. According to Fidelity Investment, 38% of the emerging affluent follow their advisors on social media, and 30% can relate well to advisors who have a social media presence. Online presence in various forms of social media, such as websites, blogs, Facebook, Twitter, Yelp, etc., can help the financial advisor creating brand awareness and recall among Gen Y and Z clients.
- Realign fee structure and minimum investment thresholds, which are areas where traditional advisors are likely to face greatest pressure in the new environment.
- Fee Structure: Consider how the fee structure can be aligned to current market realities, and also make them transparent to clients. Streamlining fee structures and access to comparative fees, such as in the insurance sector, could help improve credibility. Bob Veres, from Financial Planning, suggests the possibility of fee bifurcation by charging significantly lower fees for management of assets, and higher fees for additional services.
- Minimum Investment Threshold: The possibility of lowering the investment thresholds for asset management to be managed in person by FAs needs to be based on the individual circumstances of the FA. Lower thresholds would need to be coupled with aggressive strategies to onboard new clients.
- Create greater value in service delivery through more comprehensive service delivery. This could be achieved through partnerships so that the financial advisor serves as a one-stop shop for all financial service needs for the clients, such as tax planning, insurance, and estate management services.
- Communicate the value-added services to clients in terms of personalized service delivery. In addition to customized service offerings, the communication and marketing material should highlight the following areas of strength of the traditional financial advisory practice:
- We understand your needs and work for your best interests – Traditional financial advisors aim to work for the best interests of their clients. Since robo advisors are a new entrant (since 2008) into the financial advisory market, the definition of their fiduciary duties is a gray area. This is an area of concern with respect to robo advisors and is being extensively debated. Some concern has also been expressed about the limited ability of algorithms to be able to completely understand the life situation of each investor and to fulfill the same fiduciary duties as a financial advisor. The robo advisors create an online investment portfolio for their clients based on information gathered through questionnaires. This process may not always effectively capture the nuances of the risk profile of investors. In addition, many younger investors may not be able to effectively communicate their life situation through a questionnaire. A financial advisor is in a position to ask necessary follow-up questions to correctly define the risk profile of investors.
- We are there for you if the going gets tough – The corrections in the market over the last couple months highlight the frustrations faced by a number of investors who do not have timely contact from their robo advisors. Market volatility puts into focus the importance of human contact and interaction with a financial advisor especially at a time of financial market slumps and crashes. In such situations, financial advisors should emphasize that they are in a better position to provide rational advice to their investors.
Robo Advisors are here to stay, but…
A 2015 Wells Fargo/ Gallup Survey of investors shows that only 9% are looking at a purely online or digital investment experience, while the balance of respondents prefer access to a financial advisor in varying degrees: from limited involvement to sole interaction. “Nearly two in three investors say they prefer to get financial advice from both sources, including 39% who want advice to come mostly from advisers and 26% who want it to come mostly from digital tools.”
Robo advisers can be viewed as an important technological innovation that has broadened the financial advisory market by bringing in investors who would previously not have considered expert guidance for investment. Robo advisors also increase the consumer literacy and awareness of prospective investors that is especially relevant given the turbulent financial markets and risk-averse nature of investors in such markets.
As with other segments of the financial market, such as banking, taxation, etc., online service delivery for financial advisors is expected to be an integral part of the service delivery model. It is now time to embrace this new phase of technological innovation. The robo advisor segment should be viewed as a lower cost, mass market segment of the financial advisor industry that will help grow the market and attract new consumers because of their online presence. With the right mix of strategies, financial advisors can not only meet this challenge head-on, but also leverage it to grow their practice.