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“Robo-advisers” are designed to deliver cheap investments, and to reduce the time required to give financial advice. Most of us would agree that these are good intentions, but they are are difficult to achieve.
I have had a look at the robo-advisers in the UK and my conclusion is that, in their current form, robo advisers can only be effective for a very small group of people; their aim of providing cheap and quick financial advice remains a distant prospect.
Robo advice can work well for financially sophisticated individuals who do not already have any financial arrangements (like mortgages, pensions, ISAs or other investments). However, they could have wider uses, if they changed their approach.
Only for the Sophisticated
All of the robo advisers expect their potential clients to know whether they want to invest in an ISA, a general investment account or a pension; so, before approaching the robo-adviser, the individual will already have been able to decide that it is better not to pay off debt, and that it is better not to use the money for other requirements (e.g. emergency funds). The monthly investor will have decided that they should not use their excess income for life insurance, critical illness etc. The individual will have worked out that there are certain types of investment that will not be right for them (e.g. onshore or offshore bonds). A good knowledge of pensions is also assumed, as the robo-adviser won’t help the client choose between pensions, ISAs or other investments, if saving for retirement is the goal. The investor will have decided not to add money to their workplace pension, which is a complex decision to make.
Some of the other information presented by the sites is wrong. For example, most of the robo advice sites incorrectly state that there are only two types of ISA available – cash ISAs, and stocks and shares ISAs. For many people, the Help to Buy ISA (soon to be replaced by the Lifetime ISA) will be the right choice; Nutmeg suggests that you might use an ISA to save for house purchase, but doesn’t obviously tell you that a Help to Buy ISA might be a good alternative. Robo-advice clients will need sufficient knowledge to ignore these errors.
No Other Investments
None of the robo-advice sites are able to take account of any existing investments, which a client might have. I’m sure we all understand the risks of ignoring existing arrangements. The advent of automatic enrolment for pensions means that there is an increasing number of people who will already have existing pensions; and this number will only increase.
Risk Profiling Which Increases Risk
Most of the websites require the client to fill in a Risk Profile Questionnaire. The questions used are difficult to understand and vague terminology is unhelpful, to say the least, and misleading at worst. Box-ticking is used to provide an answer to a question; this leaves the client unable to respond “none of the above (with an explanation)” or “I don’t know”.
Non-UK Regulated Funds
Money Farm and Nutmeg recommend a series of exchange traded funds. These funds are domiciled overseas, so clients are less well protected than they would be by UK regulated funds. Non UK funds include additional tax risks too; will the manager bother to apply for reporting status, and will they get it?
Who are robo-advisers right for?
It’s obvious that there will be very few financially sophisticated individuals who have not already invested money in pensions or other investments, and who don’t mind giving up some of their regulatory protections. The potential number of suitable clients for robo-advice must be extremely low.
The fundamental problem
Robo-advisers have started with the answer (“you should invest some money with us”), and worked back from there to establish what the question should be. A better starting point would have been to start with the questions, and work towards some answers. The robo-advisers’ business model relies on people investing money with them, and it shows.
The easiest solution for robo-advisers is to work with human advisers, rather than setting themselves up in competition with us. In some circumstances, they can replace a para-planner. Many of us have some clients who, having been through the initial advice process, might only want a simple ISA or pension. Those clients could be pointed in the direction of a robo-adviser. If the robo-adviser allowed me to download information into my back office system, I’d be much more likely to recommend this as a solution.
Why Do I want them to Improve?
Robo-advisers are covered by the FSCS, and despite looking like product providers, they are probably intermediaries. Ultimately, my firm could be compensating their clients. And the current quality of the robo-advisers is such that I am concerned that I will have to pay up in the future.
Dawn of the Robo-Paraplanner
Of course, if the robots want to work with advisers, they may need to drop the silly name. Marketing people love silly names though. “Robo-paraplanner” just trips off the tongue!