Cai Jin

Robo advisers set to rock investment world

For one thing, the fees charged are far lower than those of fund managers

Few people have heard of robo advisers, much less know what they do. Even fewer have used one.

Yet, robo advisers may prove the biggest game changer in the world of investing, playing a key role in shaping people's financial future.

Let me explain. Robo advisers (robos for short) offer a cheap, automatic version of the services provided by an expensive financial adviser to pick the stocks and bonds you invest your savings in.

They are able to do so by using a computer which can perform a much more sophisticated job than its human equivalent - at the touch of a button.

And if they become a part of our lives, we will find that rather than try to figure out by ourselves which stocks to buy or sell, we can use robos to get a diversified exposure to thousands of global stocks and bonds - and if all goes well, end up financially better as well.

At a bank, you often need to have at least $200,000 to enjoy the service of a relationship manager and get access to financial products offered to the well-heeled.

But some robos will give you the same benefits while allowing you to open an account with practically no balance at all.

Sure, one big attraction about ETFs is that investors can cheaply buy or sell exposure to almost any industry or market at the click of a button. But that applies only to heavily traded ETFs such as those tracking the gold price or Wall Street's S&P 500 where big trades are unlikely to significantly move prices because of the big flows of buyers and sellers.

So far, robos are largely confined to much larger markets such as the United States where start-ups such as Betterment, Acorns and Wealthfront are beginning to assert themselves - disrupting the space now occupied by the traditional fund management industry.

A robo will start by asking you to fill out a brief online questionnaire designed to assess your personal financial situation and your risk tolerance. Based on your answers, the robo will recommend you a portfolio made up of a basket of low-cost index tracker funds known as exchange-traded funds (ETFs).

Once you deposit your money in the account, the robo will go from advice to actual management. It will buy the ETFs according to the recommended portfolio and rebalance it on a regular basis, so that as the ETFs in the portfolio rise or fall in value, your investments will track your ideal mix of assets.

The icing on the cake is that even with regular rebalancing and other costs such as custody charges for safekeeping of the ETFs, the fees charged by a robo adviser are less than 1 per cent - far lower than the 2 per cent or more fee charged by a fund manager.

In a recent article, Business Insider observed that the global assets managed by robos reached US$200 billion last year and may hit as much as US$600 billion (S$825 billion) this year. The US journal also estimated that if this pace of growth continues unabated, robos will grow their assets to a whopping US$8.1 trillion by 2020.

If this happens, the sum would be twice as big as the US$4 trillion worth of ETF assets today. It would also be one-third of the US$24 trillion under active management.

In other words, robos have the potential to be very big business.

So far, they haven't made a similar splash here yet. But the Monetary Authority of Singapore (MAS) has quite sensibly stayed ahead of the game by considering what rules they should adhere to.

It consulted the public recently about rolling out the welcome mat with measures such as waiving for robos the stringent rules binding traditional fund managers which must have at least five years' track record of managing funds and a minimum of $1 billion in assets under management before they can attract retail funds.

In return, the MAS wants safeguards like robos having key management with relevant experience in fund management and technology as well as assurance that the portfolios managed must be diversified and made up of non-complex assets.

Even before the MAS' move, banks are already eyeing a slice of the action. Lenders such as OCBC have announced plans to launch their own robo advisory services.

Given the astronomical growth experienced by robos, the banks' enthusiasm is understandable. In the US, Betterment has tripled its assets under management to US$9 billion in the past two years. Scalable Capital in Europe, which opened shop last year, has doubled assets to €200 million (S$316 million) in the first quarter.

Here, there are a few start-ups raring to get off the ground too.

Stashaway, which has a Capital Market Services Licence for retail fund management, is due to roll out its services this week. It already has a waiting list of several thousand clients keen to place money with it.

Its co-founder and chief investment officer, Mr Freddy Lim, said that the firm makes use of low-cost ETFs to provide a diversified portfolio. There is no minimum required sum for investment, no lock-up period and a low management fee ranging from 0.2 per cent to 0.8 per cent, depending on the sum invested.

To differentiate itself from other robos, Mr Lim said that Stashaway has put in place an investment framework that is designed to ride the ups and downs of the economic cycles. In-depth stress tests show that it would outperform the broader market during the 2008 global financial crisis, he added.

This is prudent. Some market pundits observe that robos have been able to register phenomenal growth because investors are hungry for higher yields in the current low-interest-rate environment, in which global stock markets have been extremely benign. The acid test comes when interest rates rise and investors find the value of their portfolios evaporating as share prices plummet when stock markets run into a rough patch.

In these circumstances, will investors who put their money with robos panic and dump their holdings in the absence of a reassuring human financial adviser to hold their hands?

There is also a limit to what a machine can do, with a human touch still needed for more complicated tasks in identifying your financial goals and challenges in areas such as life insurance, estate planning and budgeting.

On the macro level, there is the worry over whether it is wise for robos to put their investments mainly in ETFs and the impact these ETFs will, in turn, have on the broader market, given the enormous sums involved if robo investing takes off.

Sure, one big attraction about ETFs is that investors can cheaply buy or sell exposure to almost any industry or market at the click of a button. But that applies only to heavily traded ETFs such as those tracking the gold price or Wall Street's S&P 500 where big trades are unlikely to significantly move prices because of the big flows of buyers and sellers.

But what happens when a robo buys into an ETF tracking, say, emerging market stocks or corporate bonds when what goes into their products may be much harder to buy and sell? It is a question yet to be answered satisfactorily, as many ETFs have not been tested in a meltdown of the scale experienced during the global financial crisis 10 years ago when robos had yet to be invented.

Still, despite these vexing issues, there is no doubt robos are here to stay. For those of us who don't want to spend our lives consumed with investing and yet want a better yield for our investments, we will soon have a good alternative to turn to. We can get a machine to handle our nest egg for us.

A version of this article appeared in the print edition of The Straits Times on July 17, 2017, with the headline 'Robo advisers set to rock investment world'. Print Edition | Subscribe