2018.11 ThinkTank

Here at Backend Benchmarking, we have been closely following the robo advice industry for over two years.  Our project started by opening accounts at the largest robo advice providers so we could track their performance, trading, and other activities.  Since the project first started, we have grown to track more than 50 accounts across the industry, and have become the only comprehensive provider of performance on different robo advice platforms. Our results are published quarterly in The Robo Report™.  Most recently, we expanded our project to also rate the services, customer experience, financial planning, and other features of the robo advice providers. These qualitative features, combined with performance and other quantitative features, were recently released our first ever Robo Ranking™.  Throughout the process of ranking the robos, we took a deep dive into each platform. While full ranking results can be found at theroboreport.com, recent trends in the robo advice portfolios and digital advice industry can be found below.

It is has been another exciting quarter in the robo advice industry, as we see innovation across the digital advice space.  Two announcements in the third quarter underscore a ongoing theme of fee compression in retail investing. JP Morgan announced a trading app the offers 100 free trades per year.  It is anticipated that JP Morgan will release a robo advice product to the public in coming months as an additional feature to this platform.

While JP Morgan released an app offering free trades, Fidelity is at work reducing expense ratios. Last quarter, we applauded Fidelity’s move towards better price transparency when they changed the funds held in Fidelity Go accounts to newly created mutual funds that have no expense ratios. Following this move, Fidelity recently released two mutual funds available outside of their robo with no management fees or loads.

With Schwab offering their digital-only robo advice offering with no management fee, Betterment and Wealthfront offering their advice for a 0.25% management fee, and Vanguard coming in at a 0.30% management fee, the retail financial services industry is experiencing a new age of price compression.

Competition is fierce enough in financial services, but could become even more competitive if one of the nation’s tech giants enters the arena. Moody’s Investor Service released a report speculating that large technology firms like Google, Facebook, and Apple will continue to expand their offerings and begin to offer investment products and services, eventually emerging as significant competitors to traditional consumer-facing financial institutions. Bain & Co. also released a report specific to Amazon and its potential to disrupt financial services. TD Ameritrade President, Tom Nally, reflected this sentiment in an editorial he published on September 11, in which he wrote, “When it comes to technological change, financial advisors no longer compete only against brokers, robo advisors and other advisory firms. Consumers also judge their RIAs against the convenience and responsiveness set by disruptors such as Google, Amazon and Uber.”  If existing competition was not enough, there is an ongoing looming threat that a large technology firm could enter the arena, further exacerbating price compression.

Despite the wave of robo advice offerings experienced over the last couple of years, business models have yet to be proven.  Many major financial institutions have released a digital advice product, but we have also seen some negative–and, in the case of UBS–contradictory signals from the market.  Hedgeable and WorthFM, two independent robo advisors, discontinued their robo advice offering earlier this year. In the case of UBS, they simultaneously discontinued SmartWealth, their UK-based robo advice offering, while their US operations  released Advice Advantage, a robo advice offering backed by SigFig. The model of offering portfolios to low-asset customers at rock bottom prices is a model that is still being tested, and the robo advice industry still has some time before it reaches maturity and profitability.

Questions of profitability aside, we continue to see innovation across the personal finance and digital advice space. We are continuing to see digital advice technologies pop up in areas of personal finance, like budgeting, debt management, and insurance. Advances in AI, combined with digital advice expanding well beyond portfolio management, make it possible to start conceptualizing a product that could automate large swaths of personal finance tasks. The idea of financial services software handling decisions on a user’s investments, budgeting, savings, insurance, and other tasks is still just a concept at this point, but we are beginning to see some modest developments in technology that could eventually lead to a single product to handle these tasks. Wealthfront may have this aspiration, as CEO Andy Rachleff shared his vision of a central financial hub at the CB Insights’ Future of Fintech Conference in New York City. Many firms are taking a step to become more involved in a user’s spending, with Stash, Acorns, and SoFi all in the process of launching debit card products. A single AI-driven financial hub to handle finances from a paycheck to an estate plan is unquestionably a lofty goal and a long ways off, but with each new product offering and feature development, digital advice is tackling smarter personal financial management one small step at a time.

Moving on to the performance of our portfolios in the third quarter, we note the markets have seen significant volatility since the end of the third quarter, and we look forward to diving into performance during the fourth quarter of 2018 in our next edition of The Robo Report™.  

Over the third quarter, we saw a continuation of growth outperforming value up until the end of the third quarter. This trend helped one of our newest robos, tZero, which is owned by Overstock.com, outperform the group in total, equities, and fixed income returns for the quarter. tZero holds individual stocks for their equity allocation, and although other robo providers offer strategies with individual security holdings, our portfolios are not invested in them, making tZero unique in our universe. In their first quarter, their underweight financials allocation, significant exposure to technology and telecom, as well as individual stock selection, helped them outperform in equities. Zacks robo has a weighting toward large-cap that helped their quarter, YTD, and 1-year trailing outperformance. Meanwhile, our portfolios that have a tilt toward value have not fared well this year. With growth significantly outperforming value this year, FutureAdvisor and Betterment suffered and found themselves in the bottom of our group in YTD equities returns. Both portfolios also found themselves in the bottom half of returns when judging performance based on the Normalized Benchmark over the 2-year period.

Portfolios with low exposure to international have outperformed YTD and in the third quarter. tZero has the lowest allocations to international equities, and a low percentage of their international allocation in emerging markets helped them to lead the group in total return for the quarter. Fidelity Go, which has performed well throughout the year, also has a low overall international allocation and relatively low exposure to emerging markets. Acorns’ account also benefited from the same trends. Many of the taxable accounts with high allocations to international equities—often allocating around half of their portfolio abroad—suffered this year, including Schwab, Betterment, FutureAdvisor, and SoFi.

In 2018, those fixed income portfolios that have stayed close to even or only fallen slightly have been some of our top performers. SoFi has been the only portfolio in our universe to post a positive YTD return through the end of the third quarter. Their large allocation to a high-yield municipal bond fund has helped them buck the trend and post positive fixed income returns among rising rates. tZero’s fixed income is heavily weighted toward shorter-term securities and helped them post strong quarterly fixed income returns compared to their peers. Acorns’ positioning at the mid- to lower end of the yield curve also helped them post a positive quarterly fixed income return this quarter. Betterment posted a strong YTD fixed income return, helping offset their poor equity performance with large allocations to municipal bonds and a holding in a broad-based international bond ETF.

We look forward to bringing our readers the newest updates in the digital advice industry, and analysis of returns from real accounts opened by Backend Benchmarking in our fourth quarter report.  The fourth quarter report will include 3-year historical returns on some of the biggest names in our report. We also look forward to releasing the Robo Ranking: Winter Edition. To stay up to date on all things robo please visit our website at https://www.theroboreport.com/.

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