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Robo-Advisors and Whether They Can Survive the Bear Markets


Robo-advisors are software designed to make your financial planning more efficient.

These are digital platforms that enable automated services.

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This is mainly driven by algorithm-driven planning.

This kind of digital platform does not need any type of human supervision.

It collects information through an online survey.

It collates data about their investment targets and financial challenges.

Based on all of these, it then goes ahead and creates an investment plan.

In fact, it also invests the client’s assets automatically if required.

Given the modern market challenges, Robo-advisors have seen stupendous growth.

The 2008 financial crisis has left most investors wary.

The shocking downward spiral of asset values has made every one careful.

Most serious market players are keen on creating a well-trenched safety net.

In this context, Robo-advisors have created an undeniably strong position.

The automation and the precise calculation also manages to assure investors better.

The complete lack of human supervision and smooth operation make these unique.

It instantly wins the investor’s trust.

The fact that a software will recalibrate your investments is unique.

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History of Robo-Advisors

That takes us to the history of Robo-advisors.

The first Robo Advisor, Betterment entered the market in 2008.

The world was still grappling with the aftermath of the financial crisis.

The recession was a reality for the global economy.

Investors were still debating about the next course of action.

This is exactly when Robo-advisors were first used for asset rebalancing.

It became a means to manage passive investments, primarily buy-hold ones.

But like I said, the idea behind Betterment was not very new.

Wealth managers have been using software-based portfolio allocation since the 2000s.

These Robo-advisors have completely changed the dynamics of investment.

They have undergone constant evolution and improvement.

Gradually, the ambit of their operation has also increased.

Today these Robo-advisors cover issues like taxation and retirement savings.

In fact, according to 2015 data, Robo-advisors are handling assets worth $60 billion.

They now handle mundane investment as sophisticated planning.

Today, there are many standalone providers of Robo-advisors.

The debacle of 2008 opened the resource gate for these advisors.

It is needless to mention they are hottest investment sector development.

But the question is, are they worth all the attention?

Why Are Robo-Advisors So Popular Today?

Robo-Advisors

There are many reasons for Robo-advisors gaining popularity.

Most importantly, it gives investors a sense of empowerment.

After the massive downturn in 2008, global markets are clocking continuous growth.

Almost every investor wants to grab a pie of this growth surge.

The automated Robo-advisors help them take advantage of this.

The biggest advantage is there is no hassle in engaging them.

Things seem to happen on their own.

Your assets are being invested.

Money is flowing into your portfolio.

Robo-Advisor as a Cheaper Option

One of the most critical factors is the cost involved.

The brokerage charges of the Robo-advisors is significantly less.

When you compare them to a regular broker, the difference is distinct.

The annual fee of these Robo-advisors is about 0.2-0.5% of total account balance.

Now, most human investment advisors charge an average 1-2%.

This amount is even more for many commission-based accounts.

Also, when you cut out the human intervention, firms can offer these at a much lower rate.

Firms require a lot less capital to run their organization.

As a result, there is no minimum account balance required.

This means that if I want to invest just $500, I can do so.

Most times, human advisors need a minimum $100,000 portfolio to begin association.

That means a lot of people with genuine market interest get left out.

They can’t participate in the growth story for lack of capital.

So, now you have a cheaper alternative.

You do not need to be a high net-worth individual to hire a financial advisor.

All that matters is your will to hire one.

You can now log in to any investment firm and hire one.

That has surely lent a sense of empowerment to many who want to invest.

They don’t have to get embarrassed about their paltry investment profile.

1. Robo-advisors Are Very Accessible

Robo-advisors are available 24×7.

You do not have to contact them and get an appointment.

They are practically at your service whenever you need them.

You have to simply hire them online and get started.

Even executing trades have become rather simple.

No more phone calls to actually get a trade done.

You do not have to meet an advisor personally and explain your requirement.

Everything can now get done at the click of a mouse.

In fact, the Robo-advisors have completely wiped out the need for any paperwork.

It is all controlled by some buttons.

So in many ways, it has brought in the sense of improved efficiency.

You can execute your investment decisions from your bedroom at one-tenth the cost.

2. Lack of Human Touch

However, there is one problem area that continues.

Robo-advisors have practically obliterated the need for human intervention.

With the indices clocking huge gains, this isn’t seen as a problem.

In fact, you have a healthy inflow of customers and Robo-advisors in the market.

However, the problem is how investors will manage in case of a crisis?

Would they still be okay with an automated solution?

Many times, during the crisis period, a reassuring pat on the back is all you need.

Someone offering tissues to dry your eyes is all you look for.

Is that the reason that several firms have still retained a team of human advisors?

Can this team of human advisors make a difference over the long-term?

Well, that continues to be a cardinal question.

Concerns About the Robo-Advisor Growth Story

That brings us closer to the concerns surrounding Robo-advisors.

We are currently tracking the Robo-advisors during market gain.

From the 2008 financial crisis, the markets have risen over 200%.

Currently, all the benchmark indices globally are hitting new highs.

Growth continues to be the buzzword in the investment world.

Studies indicate these Robo-advisors may manage over $8 trillion by 2020.

But many across Wall Street are questioning its proactiveness in a downturn?

Robo-advisors are algorithm-driven digital platforms.

There is absolutely no human intervention.

This is exactly why it can really handle a bear market?

The trading dynamics of a bear and bull market are very different.

The overwhelming growth thus far has been only in arising market scenario.

This is a cardinal concern.

There are many startups that have come up in the past few years.

These have primarily based their growth on Robo-advisors.

So, the question is will they manage to survive for long?

The earlier ones had strong investing principles.

But increasingly, many have simply pegged on the growth element.

In the bargain, most have ignored the problems posed by a downturn.

The humane element in a crisis is very important.

When you are in an 8-year plus bull market, everything looks okay.

But the question is if you woke up to 20% down move, how will these react?

Will investors still have the same faith in Robo advisor?

Will they still allow them to invest automatically as the portfolio keeps depleting?

Long-Term Viability of Robo-Advisors

Robo-advisors today have completely altered the grain of financial investment techniques.

It has improved the accessibility and efficiency of financial planning.

Many concepts and solutions were earlier unavailable to average consumers.

But now with Robo-advisors, this problem is totally solved.

But at the same time, you cannot expect empathy from your Robo-advisors.

They are a great entry-level opportunity for average investors.

Can they stand the test of time?

That is one of the most crucial questions.

For long-term survival, their excellence in bear market needs to be tested.

The question is, how can you get around this element.

Important elements like tax planning and retirement funding are at stake.

Moreover, how can these handle the emotional crisis?

Forget about market highs and lows, can they even handle personal upheavals.

A recent study indicated that majority of users preferred a combination of human and machines.

The average belief is that automated platforms may not be effective in a crisis.

Also, these machines work with a lot of pre-assumptions.

But, realities can undergo serious change with time.

Let’s say your risk tolerance was moderate to high when you started.

But increasingly with age and financial liabilities, it is low now.

What degree of flexibility does the Robo Advisor offer you?

This is what creates fundamental issues about these platforms.

In many ways, the long-term viability of these Robo-advisors is also related to our comfort.

As humans, we connect to humans.

Are we comfortable letting a machine decide for us?

While it is not such a great issue in rising markets, how will we handle a crisis?

How to Generate Returns in Bear Market?

When you question the viability of Robo-advisors in a bear market, it leads to other issues too.

What are the primary challenges of a bear market?

How can you generate returns in a bear market?

The fundamental problem in a bear market is lack of confidence.

Investors typically turn to safe havens in this situation to lock in gains.

The percentage of your investment in bonds increases.

So does the overall investment in defensives.

Preserving capital becomes the primary target in these market conditions.

The regular interest payout in bonds makes them a popular bear market bet.

Even in the stock markets, investors tend to rely on blue chips.

These stocks typically handle declines a lot deftly.

They can guarantee reasonable returns in most market scenarios.

These are the obvious choice for safety.

This flight to safety is quite unlike bull.

The average risk appetite in bull market conditions is much higher.

The overall mindset is for higher returns at that point.

This is very different from bear market situations.

The question is can Robo-advisors recalibrate these altered scenarios effectively?

For example, you are less likely to invest in bonds in the bull market.

Even if you do, it is a fairly limited amount of your portfolio.

But in a bear market, this reality is completely reversed.

The priority then is about limiting the extent of losses.

Additionally, you look at strategies like shorting in bear markets.

These are typically bear market scenarios.

Can the Robo Advisor sense the difference?

Well, that’s what the primary concern is?

After all, it is a financial algorithm.

Robo-advisors do not help you in active management of funds.

It is generally about efficient and low-cost investing strategies.

  • Tackling Panic Is Crucial

Tackling panic during a bear market is another key concern.

The traditional investors question the Robo-advisors capability in this case.

The Robo Advisor is, after all, a machine.

It can work according to pre-programmed formula.

But does it have the requisite competence of a human advisor?

How can it go about managing emotions?

Fear and panic selling is the most prominent problems of a bear market.

This also leads to a huge exodus from the market.

The conservative estimate is 15-20% of customers exiting.

The next bear market can suddenly put this fairy tale to an end.

If the last crisis was an indicator, low fees, reasonable returns, nothing could hold back investors.

Historical evidence indicates that often it was the human touch that stopped investors.

The only reason they did not sell out completely was the investment advisor.

They could hurl blame, shout allegations but at the same time found a willing shoulder to cry.

That many traditional market players feel is a crucial factor.

The Financial Implications

The other factor to consider is the financial implications of the whole deal.

The investible asset is a major aspect to take into consideration.

Most Robo startups revolve around the $1 billion mark.

Now compare this with some of the biggest market players.

  • Fidelity manages around $5 trillion.
  • Vanguards AUM is north of $3 trillion.
  • Schwab’s assets hover around $2.5 trillion.

Now think of the maneuverability that these firms have.

In comparison, the income statement of the Robo-advisors is worth a look.

That alone can be a problem.

The question will be how the Robo-advisors can deal with value erosion for a sustained period.

Look at some of the lead players like Betterment and Wealthfront.

They sure have raised capital north of $100 million from VCs.

But at the same time, traditional players like Schwab are not stagnant.

Vanguard and Charles Schwab both have increased their share in the market.

You have to understand that one of the biggest triggers for their popularity is low fees.

Along with that low AUM is another popular aspect for Robo-advisors.

But let’s face it; fees or AUM limits can’t be reduced infinitely.

The question then is, what next?

Robo-advisors cannot continually look at these as the only way to attract customers.

There needs to be a sure plan for their evolution.

These two factors have a finite scope.

These also limits the Robo-advisors maneuverability in a crisis.

As a result, the concern about the overall sustainability continues.

Regulatory Concerns

That apart, the scope of the Robo-advisors is constantly evolving.

Our investment related policies are geared for human intervention.

By that, I mean the policies are still targeted toward one fundamental thought.

It still takes into consideration an individual doling out financial advice to another.

Now regulation too has to keep pace with these changed realities.

If you want the Robo-advisors to handle bear market, regulation has to be evolved accordingly.

You must understand that this is a very dynamic situation.

Constant work towards adapting to it is one of the biggest prerequisites.

Can Robo-Advisors Be That Flexible

Therefore, I believe that Robo-advisors are here for the long haul.

Though there are some issues with the present composition, they are evolving.

The trick is to match the dynamics of stock market investment.

Tackling bear markets is also about creating sensitivity.

Can Robo-advisors be that flexible?

Perhaps this is why the Blackrock or the Schwab model needs a relook.

The fact that they have maintained a human advisor team intact speaks volumes.

It means that algorithms can provide a sense of certainty in a controlled atmosphere.

But human intervention is crucial in a certain situation.

A happy mix of efficiency and sensitivity can help Robo-advisors survive bear markets.

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