Are Robo-Advisors the Future? – Episode 195

This transcript was auto-generated and may contain errors.

[00:01] Welcome to the Prosperity Podcast, fresh alternative personal finance talk for independent thinkers who prosper outside of Wall Street. Here’s your host, bestselling author, Kim D.H. Butler and No BS Money Guy, Todd Strobel. Hey everybody, welcome back to the Prosperity Podcast. This is No BS Money Guy, Todd Strobel. Once again, we have bestselling financial author, Kim Butler with us today and we’re going to be reviewing a couple of articles that we found. The first one we’re going to start with today is Should a Robot Manage Your Money? This is in the Money Saver section of AARP April, May 2017 magazine, which is we’re sometimes in agreements with these and sometimes Kim is opposed. So hi Kim, how are you?

[00:55] Very fine Todd, totally excited to talk about this because the whole robo advisor thing is in the news quite a bit these days and I’m a big fan of technology. I love artificial intelligence. I’m so excited with some of the potential that’s there and then there’s finances. And while robos can absolutely help with some aspects of our finances, there are so many human elements that I am super confident about my future as a financial advisor. So talk to me a little bit about the article. What’s it saying? Well, it kind of starts off talking with the idea behind this is I think it’s reasonable to see the attractiveness of a robo advisor when you look at the low interest rate when we’re talking about CDs and cash earning such incredibly low rates, a robo advisor

[01:52] or some type of an automated program is something that charges almost no fees whatsoever. So that’s really the attractiveness of it and as far as the penetration into the marketplace is of 2015, one half of 1% of invested assets were in robo funds, but they anticipate that to raise to 5.6% by 2020, which is a considerable increase. So I think this is something that we’re really just now kind of coming into. Well, it’s interesting in our work when we train advisors. So I’m speaking obviously to our clients, but my husband and I train advisors and every time we do it, there are numerous examples that come up where the numbers don’t tell the full story. And as an example, I was just talking to somebody the other day on prepaying their

[02:53] mortgage. Now these robo advisors are really more about investing, but let’s just cover this example quick numerically, we can prove that it’s not efficient to prepay your mortgage, but philosophically or from a peace of mind standpoint, this particular client wanted to prepay his mortgage, even though he understood that financially, numerically, it wasn’t the best deal. Well, a robo advisor isn’t going to be able to accommodate that person’s philosophical, philosophical, get that word out, standpoint or his peace of mind desires or anything else. And so that’s an interesting thing to think about. But really, when we dig further and we realize that the robo advisors are just about investing, one of the things that has been proven over and over and over

[03:45] is that index funds, which are not a computer, they’re not a robo, they’re not really artificial intelligence, they’re just an index of a particular spot of the market. In other words, not having any human involvement or any computer involvement outperforms the best of the humans. Now, maybe in time, it’ll be proven that artificial intelligence outperforms an index and all right, then I could accept that that might be an opportunity and that’s assuming you still like the stock market because everything about the robo advisors is right back into the stock market. Am I accurate on that? Correct. So we, as a society, think that the word investment automatically equals the stock market and as our clients know, we have alternative investments

[04:43] that have nothing to do with the stock market. So to me, a robo advisor, even if in time proves itself more effective than an index fund, if you truly want to be in the stock market, that’s great. That handles that aspect of your overall financial environment. But what about all the other questions? What about the life insurance? What about, do you roll an IRA over or do you leave it in the 401K? What about the mortgage? What about educating children? What about storing cash? What about the myriad of other questions that clients have that take humans to answer them? And that’s why, as I said earlier, I’m totally excited about my future potential as a financial advisor. I’m not scared at all.

[05:34] The one paragraph, and I want to read the entire paragraph as it is, but the questions that is asked is why have robo advisors continued to gain popularity? I think the reason is because people know that the typical environment of a financial advisor helping them with their stock market investments is not as effective as it could be, or we could even say is not working at all. And so the reason robo advisors are rising in popularity is because people are sometimes overly focused on fees and the robo advisors are put out there as very, very inexpensive. I’m going to purposely not use the word cheap. They’re put out as inexpensive. And so people think that if the only investment is the stock market,

[06:28] and if fees matter, and they definitely do, then a robo advisor is a better place to have my money. And so that’s fine, except that the premise of the stock market to me indicates immediately that the robo advisor is not a good route to go. But many people may think that it is, and that’s why it’s increasing. Super. Now I’m going to read this paragraph. And I think in it is a lot of what you’re talking about. And it is a direct challenge to the financial advising industry. 52% of pre-retirees and 44% of retirees use a human advisor. That’s a 2014 report by the Society of Actuaries, which these folks are extremely accurate. Why not more? They’re expensive, and the search for a trusted advisor can be intimidating.

[07:24] The result, there is a financial advice gap in America, says David Weinbaum, professor of finance at Syracuse University. Robo advisors are finally democratizing financial planning. Interesting. Well, I love making advice available to the masses. That’s what this last sentence of democratizing financial planning is indicating. And I readily agree that more people do need help. For one thing, we make too many emotional decisions around our finances. And so it’s valuable to anybody to have a second or even third opinion. And I believe firmly that the independent registered investment advisory firm that is not beholden to any specific product will outshine the robo advisor in time. And it may take 10 or 15 years, but there are many,

[08:26] many independent RIA firms out there that stand on the fiduciary platform and are starting to offer advice to what we could consider the masses. And so whether it’s a 22-year-old with his first job and should I max out my 401k? The answer is no. Or a 55-year-old with a pension decision or a 401k rollover decision or somebody that is already retired and they’re taking their money and they’re trying to earn income, but they’re scared and they’re not earning enough income. So what do they do? All of those people have earned the right to be served. And that service, in my opinion, needs to happen in an arena where the client is the one paying for the advice with actual fee structure that they can see with their own two eyes.

[09:26] Not that they have to dig and dig and dig through the statements to try to find, but clients are very used to paying fee for advice, service-oriented work, like with CPAs and other professionals, attorneys and other people like that. And so the independent registered investment advisory firm can provide that. And we certainly do nationwide, all 50 states. And there are many, many others that are picking up on the fact that, you know, it’s not always about product. Yes, we have to have some product to implement, but a lot of times what is needed is advice. And so let’s charge separately for the advice. And then, yes, if a product is needed, that’s fine. It’s not a problem that compensation is tied to a product,

[10:14] but there needs to be room for advice also. And I just don’t think that a robo advisor can give advice. It can give asset allocation. It can give rebalancing information. It can give this fund over that fund data and statistics. But it cannot help the guy that needs advice. Super. I think, like I said, the thing that challenged me the most about that is, you know, in whatever we as financial advisors have done to create intimidation in the marketplace and to get that information out there, that just this reaffirms my commitment to that. Yes, very well said. And I’m not surprised that we’re intimidating because the typical financial advisor uses all kinds of words that are horribly confusing.

[11:05] They do not speak in black and white. They speak in gray. And so no wonder clients who often already feel bad about the state of their finances and now they have to go sit in front of somebody who’s going to make them feel worse because they’ll feel uneducated even though they’re not. No wonder clients are not seeking advice and yet they want it. So that will be a fun thing for you and I to continue to work on. Super. Well, just for people who may not be aware, I want to talk about what a robo advisor is. It’s a menu of investment portfolios that based upon a questionnaire, the famous questionnaire, you fill out an online questionnaire and it picks a particular selection of examples of investments.

[11:58] For example, mine one might be 40 percent US stocks, 40 percent bonds and 20 percent international stocks. And it frequently rebalances and we use that term a lot and there might be people out there who really don’t quite understand what that is. And that’s simply you’re taking what’s working and selling it to buy more of what you’ve lost money in. So in a sense, the theory behind it is you’re selling high and buying low, but you’re also in a way kind of selling winners to buy losers. Yes, it is just mind-boggling to me that that is still thought of as a good strategy and give me extra of what don’t work. One more. Give you extra of what don’t work. And as we know what you started with is the problem,

[13:00] a questionnaire, a risk tolerance questionnaire that is supposed to help you as the investor identify how much you’re willing to lose. I’m not okay with that and nobody can identify that. That’s way too hypothetical. Well, a Rutger Law professor, Arthur B. Labey, says that even the best investment strategy today might become totally improper as your life situation changes. Yes, absolutely. And I know there’s financial advisors out there that talk about, oh, we’ll review your plan once a year and make asset allocation changes and other changes, etc. And frankly, most finances don’t need to be reviewed once a year. Every three or four years is sufficient for all of the work that we’re doing. And yet for people that are in the stock market, the

[14:01] additional review activity is what is adding to the expense of their stock market accounts. And so you are not only taking worse and making it worse, you’re adding fees to it. It just it’s a wrong model. It’s a flawed business model. So in this particular article, they’re trying to compare three different investment strategies and one is the do-it-yourself educated investor. Now the advantage of this is it has absolutely the lowest amount of fees possible because you’re really not paying one for anything. But I would say these people in order to have the knowledge to do the investments in the best way for them must get that information from somewhere and they’re going to pay for that information, even

[15:00] though it’s not technically fees associated with the particular trade. So I don’t think there’s a way you can go without getting an education from somewhere. Now the second choice is using the robo advisor and the robo advisor we just kind of described averages a quarter percent fees per year. And then the third choice is to use the typical financial advisor, which is using a assets under management model where they charge you one to two percent per year and that’s their advising fee. Now the thing that all of these things, I mean, if you’re doing it yourself and you’re buying stocks and bonds, if you’re doing a robo advisor and you’re buying stocks and bonds or you’re using a typical advisor and buying stocks and bonds, there are

[15:51] some fees associated with that that are going to be the same across the board. Now under the do-it-yourself advisor, there are some investment options that if you’re not going through the typical investments that you may be able to get way less fees and way better rates of return. So I absolutely believe in paying for education and I love it when people take responsibility and interest in their own personal finance. And I share with people all the time. You should basically have two work environments your own work that you’re doing on a daily basis that you get paid for and your own family’s personal financial environment because that does take work and it’s very very important. And so I am always excited when somebody

[16:46] comes in and they have found good investments. I think that’s fabulous. We can add ours into the mix and help diversify them out a little bit if that seems appropriate. But I often encourage encourage people to go back into their own community and try to find their own investments. So that’s on the left-hand side. If you will this do-it-yourself educated investor and you so you stated it so well with the idea that okay that education came from somewhere there was payment in some form even if it’s just time and a lot of reading but something else that we’ve discovered is once something works and it’s been tested and proven it’s so much more confidence building. And so a lot of times I think when people

[17:31] are out there on their own they don’t really know what’s tested and proven and what’s working. So sorry go ahead you have a thought I just I think this just is so applicable to this. I was at a financial conference early in my career probably within the first 10 years and I was sitting with two people that were really arguing and these these are notable names that you would know they have more than 10 books apiece and one was arguing that he has decided to live his lifestyle where he donates 90% of his gross income to the charities that he wants to support and the other argued that there is no way he would ever in he would ever give away principal because principal will be there tomorrow to be able to generate more money to continue

[18:29] to support his charitable activities longer. Now into the story was the guy who gives 90% of the way gave 90% of the way gave me a ride home on his personal jet. So I think I kind of went with him on that one. Yes that would influence one wouldn’t it? Well it is interesting you know just the main the maintaining of principal the maintenance of principal is a challenge because you can’t just let cash sit it is going to be eroded by taxes and inflation and potentially fees depending on where it’s sitting. So that’s something to throw into the discussion. But furthermore as we look at this fee environment between the quarter percent of the robos deal and the one to two percent at the AUM model the AUM model which

[19:28] stands for assets under management. It’s how most typical financial advisors are paid is really coming under scrutiny right now as it should because to charge somebody assets under management percentages. So think about it you’ve got a million dollar asset somebody charges one percent okay then there’s revenue to that firm to do the work somebody else has a five million dollar asset and they’re being charged one percent or maybe even a little bit less because of the larger size that’s a whole lot more money to the firm to do the work and the statistics are showing that the firm is not adding a lot of value from an investment standpoint which means they have to put forth all of their value in advice and that’s why I’ve been

[20:12] an advocate for so long to split up the advice from the products because our clients come in and a lot of them have already done their own research. They are do-it-yourself educated investors. They just need a little bit of guidance a little bit of a push in the right direction and they’ve already read all their material they’ve listened to our podcast they’ve read the books they’ve paid attention and they have a game plan of what types of investments they already want I can point them in the right direction they get those products we help them get them put in place and off they go there are other clients that truly want advice and they need advice distinct and separate from the products the things where the

[20:57] money is placed and so those two things need to be separated obviously we deserve the compensation in both cases I should say we have earned compensation in both cases we don’t deserve it but we’ve earned it we’ve provided a product that they didn’t have we’ve provided advice but let’s separate out those two things and I do believe that the Robo advisory world will help our society separate out those two things because the true Robo advisor that is just an artificial intelligence computer generating information based on some questionnaire that you completed is only going to be able to help you quote invest it’s not going to be able to help you with the advice side so I’m actually looking forward to what the Robo

[21:47] advisor world will bring I’m looking forward to continuing to help our clients over the phone in the web were able to work in all 50 states that is something that more and more people from a client standpoint are interested in because nobody wants to sit down at their dining room table or at their desk in their office and talk personal finances they would rather just handle that conversation on the fly or maybe combined in with a spouse who’s in a different location or what have you so the web has enabled that for us for many many years and we’re super grateful for that and that Robo work will continue to increase people’s confidence in dealing with their finances over the phone and over the web

[22:32] but it still needs the personal touch and that’s what we can bring for the clients that want that and then the clients that don’t they can pick their product and go on down the way it’s a beautiful environment in my mind but not probably how in the article is putting it forth well and the other commitment. I think we can safely make is that if there is ever a robot invented that is more effective than an advisor Todd Langford Kim Butler’s husband will own one of the first ones. Yes, he’s the programming machine for sure and very very interested in all things technological technological and robotic in nature. And so yes out here in East Texas. We may just have one of those one day super well listen.

[23:24] We’ve had a lot of fun with everybody today and we want to continue to appreciate our listeners and bring relevant information to you. So what’s the best way for them to get a hold of us if they got a question the special email for podcast listeners is hello at partners number for Prosperity.com and we welcome your questions and comments there again. That is hello at partners number for Prosperity.com super well thanks all again from the Prosperity podcast. Thank you for listening to the Prosperity podcast to take control of your money and have it work for you visit us at partners for Prosperity.com if you liked this episode make sure you subscribe and leave a review.