So you are already ahead of most of the population when it comes to your finances. First, you realise that to invest is the only reliable way of being financially secure (seriously). Second, you know that reducing the cost of investing is a big part of getting your investment strategy right.
So you decide to become a DIY investor and spend evenings and weekends watching the markets, learning portfolio construction techniques and becoming an expert in stock and asset class valuation, and finding the cheapest instruments to execute your strategies.
At parties you cannot wait for the conversation to turn to money so you can show everyone how big your portfolio is. And then you stop being invited to parties altogether.
It’s good to have control of your investments, but it takes lots of time and effort to create investment solutions that find the right balance between return, diversification and cost efficiency.
Even DIY investing can cost you as much as – if not more than – a traditional actively managed unit trust if you trade shares in small amounts and trade a lot, or if you cannot access institutional share classes for collective investment schemes.
However, a third way is emerging – it might offer a better alternative between doing it yourself or handing your entire investment over to a financial adviser.
As is the case with most other industries, technology is also changing the way we do things. New investment businesses that are building systems which support investment decision-making are being launched.
The result is the ability to build and control a professional-grade investment plan without having to know everything about investment.
This new blend between investment and technology is known as a robo-adviser. It’s worth mentioning in this article, and I say this with unfortunate personal experience, that those building robo-advisers are almost never invited to parties.
They are even worse than DIY investors because they tend to talk in statistics and mention the word “algorithm” a lot.
These new robo-advisers embed the investment knowledge contained in the head of your typical investment professional into an online algorithm (or system) in such a way that anyone can use it.
Good robo-advisers typically blend efficient, low-cost passive investment strategies and high-quality digital advice algorithms to deliver a balanced risk and return profile from the capital markets (the share and debt markets) to help consumers achieve their investment goals.
These algorithms are incredibly difficult to build well. They require actuarial, investment and financial planning skills. In addition, the maintenance of these algorithms is regulated by the Financial Services Board.
This should help ensure that, as this industry emerges, only good quality robo-advisers are available to everyone.
The best digital advice algorithms are designed to work exclusively with pre-selected investment strategies, but the investment fund is only part of the solution.
This isn’t about outperforming benchmarks, or returns relative to a benchmark; it is about creating suitable outcomes for consumers using the most efficient and cost-effective investment exposures in the market, which at this stage are typically rules-based strategies.
It is an evidence-based approach to investment that uses statistics as well as investment and financial planning knowledge to create investment solutions at extremely low cost.
Creating a tailored investment plan during sign-up is only part of the solution.
The vast majority of advice and decision support is needed once a person has an investment and this is where great robo-advisers use qualified, neutral human advisers who are not paid on a commission basis to deliver objective advice.
Robo-advisers should be much cheaper than the traditional face-to-face engagement with a financial adviser.
The costs however do vary, and I have seen costs from around 0.7% to 1.5% all in (this should include the cost of the investment product, plus the cost of ongoing advice and administration).
Robo-advisers typically do not charge upfront advice fees and with good robo-advisers, the fees you pay should reduce the more you invest with them.
If you compare this to a typical engagement with a financial adviser, which is around 2.5% all in, then you could save from between 40% to 80% of the fees you would be paying with a traditional adviser.
But before you decide to put all your money into a robo-adviser, make sure it actually gives advice – both upfront and ongoing – and that this service is included in the costs. Also, you must see all of the costs upfront – and your outcomes should be shown net of all fees. Otherwise it is just a pretty website.
GET ROBO ADVICE
South African robo-advisers include the following:
Absa Virtual Investor: www.absa.co.za/personal/save-invest/products/virtual-investor
Nedgroup Investments: https://www.nedgroupinvestments.co.za
Grant Locke, a certified financial analyst, is head of OUTvest.
This article is part of our April 2018 Collective Insight supplement, which appeared in the 26 April edition of finweek. To download the entire supplement, click here. Buy and download the magazine here. Subscribe to our weekly newsletter here.