Are robo advisers needed to achieve financial freedom?

SINCE the introduction of robo advisers in Malaysia, it has been popular with the Millennials and Generation Z, who grew up in a tech-laden world.

Nevertheless, the pandemic, during which large amounts of time is spent at home, is also beginning to stir interest amongst older investors who view robo advisers as an option for their investment portfolio. As such, this developing digital innovation warrants a pragmatic view of how it would fit in the ecosystem of one’s personal finance.

A friend of mine recently asked for my views on robo advisers as an investment alternative. A businessman with three young kids, Mike was excited to jump in on the robo adviser bandwagon. He has already invested RM500,000 into a few robo advisers and is contemplating to pump in another RM2.5mil when we met up.

What are robo advisers?

In a nutshell, robo advisers are digital platforms that provide automated, algorithm-driven investment services with little to no human supervision.

In Malaysia, the Securities Commission has classified robo advisers as a digital investment manager and issued licences to providers such as Stashaway, MyTheo, and Waheed.

What proceeded was a long conversation between Mike and myself. We discussed the inner workings of robo advisers and whether it would be able to accommodate what he set out to achieve.

According to Mike, robo advisers are cheaper alternatives to unit trust investments. By eliminating the presence of human advisers, robo advisers are able to offer the same services at a fraction of the cost.

There are no sales charges compared to the 5% to 6% imposed by unit trust investment. He even countered that the annual management fee is only 0.5% compared to 1.5% for unit trust.

Mike shared that he was taken in by the convenience of robo advisery platforms. It gave him access to diversify into global markets. Indeed, in the age of digitalisation, anyone with Internet access can perform transactions at the comfort of their own homes.

The same cannot be said for traditional human advisers, who warrant a face-to-face meeting in order to transact.

For example if a client wanted to execute a trade, he would have to call or physically meet with a financial adviser, explain his needs, fill out the required paperwork, and wait. Nevertheless, the increasing popularity of video-meeting facilities like Zoom changes things a little.

Mike further shared that he does not require the services from a human financial planner anymore now that he has engaged a robo adviser.

As a wealth management practitioner for the last two decades, I could certainly appreciate the benefits of using a robo adviser. From an affordability, accessibility, and convenience standpoint, it has merits. But, it should not be the only point of contention.

Therefore, in the grand scheme of things, it is critical to be aware of the limitations of robo advisers.

I in turn presented Mike with a few significant disadvantages of a robo adviser:

>ETF has its performance limitations

Most robo advisers only invest in exchange traded funds (ETFs). From the best of breed fund manager selection perspective, ETFs have its own strengths and limitations.

ETFs tend to perform better in certain developed markets like the US. In other developing markets such as China, Malaysia and other Asian countries, human investment managers generally perform better than robo advisers.

Therefore investors who invest only in robo advisers will miss out on some of the best of breed funds available in certain markets.

> Limitations as a fund manager

Robo advisers are not ideal for investors who have a large sum to invest because they are not able to offer access to some of the major asset classes effectively. In Mike’ case, he has already invested RM500,000 in a robo adviser. To capture the opportunities of other asset classes, I suggested that he could, for example, diversify into real estate investment.

We all know how popular physical property investment is with Malaysians. In fact, it is an important asset class that has the opportunity to provide investors with both capital gain and rental income. It is also possible to use mortgage loan as leverage as well.

In addition, Mike may want to gain more exposure to an industry sector already accessed by his current robo adviser portfolio, for example, the technology sector.

Therefore, Mike would need to find another investment alternative like unit trust or ETF, to get the extra exposure that he wants.

In short, a robo adviser is just another fund manager playing the function similar to a unit trust fund manager.

It has its strengths and limitations. As such I cautioned Mike that its performance should be evaluated regularly so that timely decisions whether to keep, sell or buy can be made.

> No holistic and comprehensive financial planning

Due to its rather confusing name, some people like Mike mistake robo advisers as digital financial advisers that are capable of replacing a human financial planner.

The fact of the matter is, robo advisers are only but a subset of the entire financial planning ecosystem.

Holistic financial planning is the comprehensive service which aims to manage and grow one’s wealth with high certainty by taking into consideration the following eight areas of wealth management – Investment Planning and Management, Risk Management and Insurance, Children’s Tertiary Education Planning, Retirement Planning, Asset Protection, Estate Planning, Debt and Loan Management and Tax Planning.

If you were to compare the entire service offering of what financial planning entails, robo advisers at best only cater for the investment planning and management process.

For matters pertaining to estate planning, risk management, insurance and debt management, Mike would still need to go to a traditional holistic financial planner as robo advisers cannot provide the convenience of a one-stop solution. Investors need to be fully aware of the implications of choosing one over another.

> No customised advice

Earlier we have established that robo advisers are at best another investment or fund manager.

Therefore, robo-advisers are incapable of providing customised advice, especially when there is a need to look at the client’s wealth in a holistic and unique manner.

Its failure to capture the full picture of a client’s financial assets and liabilities, pales in comparison to a human financial planner, who strives to get to know their clients comprehensively to provide customised financial and investment advice.

> No personal touch

Financial and investment decisions very often have emotional and psychological effects on an individual and a robot can never deliver the empathy and understanding of its human counterpart.

Relationship building and connection are what we as humans generally desire. It is also one of the core essences for professionals who run a financial advisory business.

Clients find assurance and value in having a professional sounding board to guide them through their money and investment matters. However, with robo advisers, you will find that the total hands-off approach (lack of human touch and empathy) can be somewhat cold and unsupportive psychologically.

A robo adviser will not hold your hand and talk you off the ledge after a significant market drop. In comparison, a human financial adviser is there to assuage your fears, explain how the investment markets work and suggest the right actions to take.

>Lack of coaching to take higher risk for higher return

If you are a low-risk investor, you’d have parked all your earnings in a savings account and/or in fixed deposits. In order to increase the investment return of your money, you need to learn to take and live with higher risks.

Robo advisers don’t normally provide one to one risk coaching services. A holistic financial planner who is competent, and experienced can effectively guide an investor to get out of their comfort zone to take higher risk and help manage the risk along the way.

“A good decision is based on knowledge, not on numbers.” ~ PlatoAs you can see by now, robo advisers are at best another investment option in a sea of investment opportunities. It won’t replace a human financial planner, especially the competent and experienced ones.

I hope my sharing of the conversation in this article can also help the readers have a better understanding of what a robo adviser can and cannot offer in your personal financial planning and management.

Yap Ming Hui is a licensed financial planner. The views expressed here are the author’s. Any reliance you place on the information shared is therefore strictly at your own risk.

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