Robo-advisors are the evolutionary next step in financial planning, blending tools, advice and information – and putting you in a position to personally take charge of your financial well-being.
Robo-advisors are the evolutionary next step in financial planning, blending tools, advice and information – and putting you in a position to personally take charge of your financial well-being.
Electronic financial planning tools have been around for decades.
These range from simple compounding interest calculators, to sophisticated software packages with expensive licenses that are used by financial planners to inform the advice they give.
The old-fashioned advice process consists of 5 parts, and most robo-advisors will contain some or all of them:
Information gathering. You provide details about yourself and dependents, as well as existing investments, insurance products, fixed assets, life goals, personal risk tolerance, monthly budget, and planned life events.
Assessment. The financial planner normally takes a day or two to produce a financial plan; you get feedback on your current financial health, where you’re exposed to risk and the set of recommended next steps to address any problems. They will explain how they arrived at the recommendation.
Projection. The plan will include a financial projection which forecasts your income and net worth into the future, well beyond retirement. The projection will assume monthly contributions to existing or new retirement savings, and can be tweaked to suit your pocket.
Implementation. Should you accept the advice, the planner will open various insurance and savings products on your behalf, and close or consolidate any products you have which are unsuitable.
Continuous Assessment. The financial planning regulator requires your advisor to contact you on a regular basis to update your information: salary change, property purchases, new dependents and any unexpected financial events which may have occurred.
Robo-advisors condense the advice steps above into a single electronic process with instant feedback, and instant implementation should you choose to proceed.
They benefit from having all the required data and computational power on tap – there is no ‘go away and wait’ period.
Very good robo-advisors will include the fifth element, and remind you to update your info and compare your latest projection with your baseline (previous accepted plan), so that you are detecting fluctuations and making adjustments where necessary – throughout your life.
The complexity lies in the assessment, projection and recommendation.
This is because the computer algorithms that drive these stages must take into account hundreds of current environmental components and dozens of client-specific data points.
These include latest life expectancy, salary survey data, public and private school and university fees, inflation, tax tables, new tax legislation, property price trends, equity and bond performance, etc.
The tool will forecast how much you will have saved at your desired retirement age, as well as what it would cost you to retire at that age.
If the cost is larger than your projected savings, you will not be able to retire unless you’re prepared to live on a smaller income.
Alternatively, you will need to make additional contributions or retire later (or some combination of all three).
The projected saving value is obtained by running a lifelong cash flow projection, taking into account at each month-end hundreds of parameters and all available data for client over her lifetime.
Usually, a new portfolio containing a set of investment products will then be recommended based on your unique circumstances.
Risk exposure will be tailored according to three factors: your risk tolerance, time horizon and current savings level.
Robo-advisors will use a blend of historical trends and current data to project how the recommended savings plan will achieve your goals.
The market will soon be flooded with ‘wannabe’ robo-advisors, so don’t believe everything you see.
In order to qualify as a true digital financial advice, robo-advisors should have at least the first four components listed above, and you should ensure that each one is comprehensive.
They should leave you feeling empowered and informed, and should not compel you to act hastily.
The projections should be based on as much information as possible, and the calculators should be veterans – i.e. existing, industry-tested software under the hood, not newbies.
You be able to read how long they have been in use for; ultimately the quality of these algorithms will be the differentiator between robo-advisors.