Should I use a Robo Advisor?

When I first heard about “robo advisors” — services which would automatically rebalance and tax-loss harvest my portfolio while making regular purchases with a set assetallocation — I thought that was great.

Soon, as with most financial products, things got complicated.

Lots of options to consider.

Having choice is great for you if you have a clear goal in mind.

One of my goals with most of my investing is to “set and forget.”  

I want to focus on diligently saving and setting aside monies for the future and not spend time poking around with my stock portfolio (unless I have the time and in the mood since I do enjoy it. But when I am busy, it really takes me down a rat hole which is not my highest contribution.)

So I have tried out many robo advisors to see if these make sense.

As part of my effort to simplify, I wanted to take a closer look at the robo advisors that I have been using (I am using several) and see how to consolidate.

This post is capturing my process to find out which is the best robo advisor.

What is “best” depends on your goals. So here are my primary considerations:

  • Which robo advisor has the best performance?
  • How do I reduce taxes?
  • How do I reduce investment fees?

These considerations have potential trade-offs, so they need to be evaluated together as a whole. For example, if you have an opportunity for huge, huge portfolio gains but investment fees are slightly higher with that approach, then it doesn’t make sense to over-optimize on reducing taxes reducing investment fees and avoid those gains. Paying taxes when you make a lot of money is better than reducing taxes when making very little.

How do I compare the performance of robo advisors?

The first pass of exploring performance has been to look at the options for investment. In general, the simplest approach is to hold two primary baskets: an index of the entire stock market, and an index of the entire bond market. Many people subscribe to this approach for its simplicity and, arguably, that it is the best performance in the long term.

The common way to do this have been to hold two Vanguard index ETF’s: Vanguard Total Stock Market Index (VTI) and Vanguard Total Bond Market Index (BND).

Robo advisors offer more granular ETF’s, such as based on market capitalization for stocks or maturity in the case of bonds. All of the robo advisors use pretty much the same set of Vanguard ETF’s (unless, like Charles Schwab’s Intelligent Portfolio, they have their own instruments) which means that the underlying performance for those robo advisors will likely be the same, regardless of which you choose.

If you think you have a better sense of which ETF’s or market segments will do better, then you would want to pick a robo advisor which gives you those options.

For example, when I looked at WiseBanyan, I saw options to invest in Vanguard’s Health Care Index (VHT). For a premium fee, I could also add more specialized ETF’s. These more specialized also have a higher fee, which is the next consideration I look at.

For example, if you wanted to specialize in a gold-related ETF, you could choose PICK, which comes with a 0.39% fee. Compare this to VTI which has a fee of 0.04%.

Although the general wisdom is to invest in the full market versus specific industries, I wanted an option to include some money in healthcare, I looked for the robo advisors that allowed me to do so.

But, in general, I think the performance based on available instruments should be the same between the ones I looked it.

The next areas I explored after performance was fees. The case made with robo advisors is that, by paying the fee, the service will do other things to improve performance, the most prominent being automatic rebalancing and tax-loss harvesting.

Automatic rebalancing 

If I have to pay a 0.25% year management fee, but I make 4% more per year, then why not?

This is the trade-off you need to make when deciding whether to use a robo advisor or not.

The marketing literature on the robo advisors make this very claim. That the combination of tax-loss harvesting (which I’ll explain shortly) and active, automatic rebalancing is worth the extra fee.

Whether this is, in fact, true matters.

In an interview with John Bogle, the founder of Vanguard, talks about his skepticism of the importance of rebalancing.

He believes that rebalancing benefits the investor by bringing comfort. But it results in being pulled out of a high performing asset in the long run.

The counter-point to rebalancing is reversion to mean, the notion that stock or asset classes revert to the mean over the long term. If a class, such as stocks, have done very well, exceeding the long-term mean, they will eventually enter a period of lower performance to revert to the mean. Conversely, lower performing assets or sectors will then eventually do better.  

Rebalancing allows you to see off some of the higher performing assets and go into lower-cost assets that should rise to revert to the mean.

Sounds good in theory. I read an article which says that reversion to mean relies on asset classes, and more than just the two typically cited (stocks versus bonds). 

So with that in mind, I started to set up accounts with real money in the following robo advisors to figure out which was the best for me:

  •  WiseBanyan
  •  Wealthfront
  •  Betterment
  •  Schwab Intelligent Portfolio

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