Algorithms, Not Stockbrokers, Deserve Your Attention
There’s a reason characters like Gordon Gekko and Jordan Belfort live on in infamy throughout the decades: greed.
It’s epitomized through Michael Douglas’s lines in the 1987 film “Wall Street,” like: “Greed, for a lack of a better word, is good.”
Or Leonardo DiCaprio’s lines in 2013’s “Wolf of Wall Street,” like: “I was selling them sh*t, but the way I looked at it, the money was better off in my pocket.”
Pop culture has conditioned us to think of stockbrokers as untouchable, unscrupulous savants that, through Hollywood, we envy and idealize as the couriers of capitalistic success.
However, they’re customarily unworthy of that admiration. They’re not cut from the same cloth as workers who contribute significantly more to society, like nurses, firefighters and librarians.
And while a film featuring librarians driving Lamborghinis or partying on yachts might not sound like a blockbuster, perhaps it’s what America needs. Because another film about a greasy, antihero stockbroker is about as original as the 12th installment in the Fast & Furious franchise.
Stockbrokers’ success is largely based on two things: (1) acquiring/maintaining a Series 7 and (2) a strong sense of salesmanship, the latter of which often takes precedence. After all, they’re compensated with commissions, and the more they sell, the more they make.
Importantly, their advice isn’t sacred, foolproof or irreplicable. And when human emotion is removed from the equation, their work is routinely surpassed by wealth-management algorithms almost entirely devoid of human input.
Robo-Advisors
If you read the Cyber Monday issue, you understand why we’re not shocked that computer programs can already outclass humans in market performance.
Long before the present hoopla surrounding AI, robo-advisors were already beating financial pros. Three weeks ago, when encouraging you to learn how to find your own stocks using a screener, we informed you that 90% of actively-managed investment funds fail to beat the market.
On the other hand, robo-advisors haven’t only outperformed investment professionals … they’ve paced (or, in some instances, outpaced) the markets.
So for those of you who are hesitant to embrace DIY investing but are also rightfully distrustful of the Gordon Gekkos of the world … this presents a tremendous investing opportunity.
Robo-advisors provide automated, algorithm-driven investment fund management that requires little-to-no human supervision and that you can use for a set-it-and-forget-it portfolio.
There are some fees (discussed later), but they’re lower than those charged by their human counterparts. And while you may be concerned that this is just another chapter in the story of the inevitable takeover of the machines, the prevailing point remains: Robo-advisor performance is markedly better than that of stockbrokers or fund managers.
The Proof’s in the Pudding
After seeing the early successes of companies like Betterment and Wealthfront, big-time financial institutions jumped on the robo-advisor bandwagon, including Schwab, E-Trade, Fidelity, Merrill Edge, SoFi and Vanguard. That’s because:
- Robo-advisors will be managing a projected $4.66 trillion by 2027, up from $2.76 trillion in 2023.
- Betterment’s robo-advisor has provided a 120.1% total return since 2011, with an annual average return of 6.7%.
- And Wealthfront’s robo-advisor has provided a 130.67% total return since 2012, with an annual average return of 7.69%.
That means $10k invested with Wealthfront in 2012 would’ve more than doubled by today, representing a current market value of $23,066.68:
And while some of you might be saying, “Yeah, but the S&P 500 returns an average of 10% a year,” investing in a passive S&P index fund doesn’t provide the benefits that robo-advisors do, including:
- Tax-loss harvesting: automated selling of securities to deliberately incur losses that offset capital gains or taxable income.
- Automatic rebalancing: maintaining target portfolio allocations while minimizing exposure to market volatility without necessitating human involvement.
- Avoidance of human error and bias: 90% of actively-managed investment funds fail to beat the market.
Fees
Good things come at a cost. That’s why those aforementioned stockbrokers aren’t cruising around in Toyota Corollas and sipping Skol vodka martinis on rowboats. (Although that too would make for an interesting movie.)
But when it comes to robo-advisors, better things can be had for a bargain. While financial advisors typically charge 1%–2% for often dispensing ill-fated advice, robo-advisors average fees of 0.05%–0.25%, including:
- Advisory fees: fees charged for managing the investment portfolio.
- Expense ratios: fees that can (but aren’t always) charged for underlying funds held in the portfolio.
Because advisory fees are assessed as a percentage of assets under management (AUM), they increase over time as your portfolio balance grows. This is the same whether you’re using a financial advisor or a robo-advisor.
However, unless you’re managing your own investments, AUM-based fees for robo-advisors will always cost less than paying Jordan Belfort for his latest stock pick.
TL;DR
Humans are emotional and, by extension, often irrational. For passive investors, robo-advisors minimize human involvement and maximize market data to provide strong, steady annual returns while charging lower fees.