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Question from Eric, a member of the Gen Y Money Facebook group: What are people’s thoughts on robo-advisers like Wealthsimple or Nest Wealth?
Ms. Simmons work with young people to help them navigate the new economic climate with personal finance, ethical investing and small business advice.
Shannon Lee Simmons is a financial planner and founder of The New School of Finance in Toronto.
Answer: A robo-adviser is like a technology company and a financial institution had a baby. It’s a technology company where you can invest your money. There are several differences between a typical investment adviser service at a traditional financial institution and most robo-advisers.
Human vs. robot
With a traditional financial institution like a big bank, you meet with an adviser before they invest your money. The adviser asks you about your risk tolerance, time horizon, your goals and constraints and then gives you advice on what type of investments you should own, otherwise known as your asset mix. This is a fancy way of saying how many bonds and how many stocks. Advisers will typically invest your money in mutual funds. These are actively managed funds. Read more about that here. Over time, in theory, you meet with your adviser and change or rebalance your investments depending on market outlooks and your changing needs in life.
With a robo-adviser, a specialized proprietary algorithm will invest your money in an asset mix that is suitable for you depending on your risk tolerance, goals, constraints and time horizon. In order to know what is suitable, you typically forgo the sit-down, in-person meeting and fill out an online questionnaire. Robo-advisers will also regularly rebalance your money to maintain your target mix of stocks and bonds. Despite the use of the word robot, some robo-advisers offer additional services where you can call in and speak with an adviser. Robo-advisers typically invest in ETFs – exchange traded funds. Watch this video to find out more about ETFs and how they work.
Typically, fees for a robo-adviser are much lower than for a traditional adviser model, especially if you don’t have a lot of assets to invest (translation: if you have less than $250,000). In fact, one of the benefits of a robo-adviser is that you can start investing with a small amount.
With traditional wealth managers or financial advisers, the fees you pay depend on the financial institution and the type of service that you get. At the most basic level, you may pay for the products you are invested in, like mutual funds. Mutual funds typically charge a fee called an MER – Management Expense Ratio. To read more about those, click here.
In Canada, these vary wildly. Some institutions have MERs well below 2 per cent, which is great. Others have them at well over 2.5 per cent, which is not great. It really depends on where you’re investing and what the firm is charging. Some advisers may charge additional fees on top of the MER. You should ask any potential adviser how they are paid and what the MERs are for the products they are selling you. If you are with a fee-based adviser, you will pay a certain per cent on all of your assets regardless of the investment mix. As a general rule, if you’re paying more than 2 per cent overall, I consider that on the expensive side.
With robo-advisers, there are typically two fees for you to cover. You will pay the MER on the ETFs, which are quite low, often ranging between 0.05 to 0.5 per cent. You will also pay an additional fee to the robo-advisers for their service. Sometimes this is a set fee each month, for example between $20 and $80, or an additional percentage, like 0.5 per cent. This will vary depending on which robo-adviser you choose.
I think robo-advisers are a good option for beginner investors or seasoned vets. They can be a great way to own managed ETF portfolios for a low fee. They are an especially great solution if you’re just starting out on your investment journey and don’t meet the minimum requirements of many investment firms.
My advice? Get online or pick up the phone and do some research. Depending on which service level feels right to you, and how much you want to pay in fees, you can make an informed, empowered choice.