The advent of robo-advisers heralded a change in how investors accessed markets. Instead of needing to meet with and adviser, here was something that did it all automatically – an entirely digitally managed investment service at low cost.
This was made possible by technological advances where new players, FinTechs, brought to market the ability to invest using technology. This was exciting because, for decades, portfolio management was an exclusive offering from banks or wealth managers to investors willing to invest larger amounts of money.
This was particularly evident in the UK, where the recently introduced Retail Distribution Review (RDR) in 2010 had changed the way that people accessed financial advice, doing away with commission-based advice and changing to charging for the advice itself. An unintentional consequence was that it put access to investment advice out of the reach of some. Robo advisors, able to offer investment allocation at a low cost, were therefore heralded as a way to provide inclusivity to everyone.
What is a robo-adviser?
The term comprises two components: “robo” (for robotics) and “adviser”. Robo describes an automated process that uses mathematical algorithms to support investment decisions without the influence of a human. “Adviser” refers to wealth management services and, in this case, automated portfolio management using mobile or online channels.
Essentially, robo-advisers are an online portfolio management service that automates client advice and the actual investment process. Robo-advisers pursue the purpose of promoting self-management of finances. In doing so, they provide the necessary information in a way that does not require deep financial knowledge. Robo-advisers translate client inputs into investment logic, such as risk tolerance or liquidity factors. They then suggest suitable investment options that go far beyond highlighting a handful of ETFs from thousands of options.
One thing all robo-advisers in the market had in common was a high level of automation and a customer experience that required little to no financial literacy.
In addition, robo-advisers offered process efficiency and the ability to scale the offering. These elements were rarely considered within traditional wealth management models – for years, it had been so profitable that there was simply no need or incentive to change or democratise things.
Robo-advisers changed that. They also looked at the user experience. The result was intrinsic to use, presented information in an easy-to-understand way and at an inclusive price point.
The human component was of secondary importance in these offerings, and often an adviser was not even part of the offering.
That was the theory, but it soon became apparent that robo-advisers could not replace advisers. Sure, the model was cost-efficient, easy to use, and offered a good range of investments, but it could not consider individual preferences and needs. This is an intrinsic part of the investment process and becomes more important the further up the wealth scale you go and where the client-centricity and service element becomes more important.
Indeed, here are three ways to invest in securities for private clients:
- Execution business: The customer identifies and decides autonomously on his transactions.
- Investment advice: The customer seeks advice and decides, based on this advice which transactions to make.
- Wealth management: The customer defines his investment preferences and mandates that the wealth manager makes transactions on the customer’s behalf.
The last investment process was particularly unsuited to the robo-adviser model. Insufficient individuality, insufficient quality, especially for high investment volumes or a growing number of securities accounts - all were lacking.
One reason for this was that most offerings were allocated exclusively to ETFs. This approach sidestepped the challenges of sophisticated investment strategies involving, for example, individual stocks or alternative investments.
Criticism of robo-advisers grew. The lack of added value and quality could not match the claim of an exclusive offering that is so central to the wealth management model. The human component, the influence of the adviser, was also missing.
This criticism led to a further refinement of the concept. The focus shifted towards value and service and combining the best of both worlds. Accordingly, hybrid portfolio management emerged as the perfect blend of digital solutions, maximum process efficiency, and the adviser’s human touch.
This is a practical solution that fulfils the need of wealth management clients for a human-led service that takes into account their individual needs and preferences and allows for customised and personalised portfolio management. The delivery, however, is technologically enabled. Because the actual process of portfolio management can now be digitised in its entirety, the marginal costs per client drop to almost zero – leaving more financial room to provide the human touch.
In this way, technology has become an enabler of democratisation – giving wealth managers the ability to tap into new customer segments and offer access to exclusive wealth management services, even for retail clients.
