Welcome to our weekly passive-income portfolio (PIP) update—#10 in the series! Before we get to the update, I wanted to take a moment discuss why I believe Robo Advisors are a scam and should be avoided!
Everyone has probably heard of Robo Advisors and probably wondered whether or not they were a good idea. I mean the idea of getting personalized, expert investing advice without having to deal with annoying “real” people sounds like a great idea for building your retirement nest egg—especially when you can put it on auto-pilot and would expect to receive risk-adjusted alpha from such a service… right?
Not so fast.
While these services may look great on the surface, when you look under the hood… there are serious issues with their value proposition and the price you pay for it.
Don’t fall for the shiny object syndrome—not everything that glitters is gold. And, when it comes to Robo Advisors, not only are they not gold… I would label them as costly scams.
Before we get to this week’s portfolio update, let’s do a deep-dive into these services and see why I don’t recommend them…
Robo Advisors are simply algorithms that pick a pre-defined allocation for your portfolio and then automatically manage it for you as you fund it.
You answer a brief survey and the software will determine your risk tolerance and profile. Next the software will select the perfect portfolio allocation just for you (never mind that this same allocation is selected for thousands of folks—nothing to see here, just move along). You then simply setup automatic funding and the algorithm will spread that capital across your portfolio and keep it in balance.
Basically, they reason that technology can do some things better than people, so they attempt to use software to make the investing process more effective and efficient for retail investors who really don’t want to be bothered with being involved in their investing activities.
The problem comes in with the slick marketing. Many of their claims are—to be kind—grossly embellished. Add to that the fact that most folks who aren’t interested in finance and investing (the perfect target customer for Robo Advisors) are the very people who are most likely to not understand the true (hidden) cost of these services.
In essence, the Robo-Advisor value proposition boils down to five (5) explicit and/or implicit claims: personalized advice, tech is better, reduced risk, reduced taxes, and investing automation.
Let’s look at each of these value claims…
Robo-Advisor services promote the idea that you are receiving personalized (albeit “robo”) investment advice and guidance. In reality, you are getting canned responses to a simple survey you complete—not much different from a “what type of personality am I” survey you would complete on a tabloid website for entertainment purposes.
If you want personalized investment advice, consult a certified financial advisor (CFA). You’ll pay more for it, but at least you’ll really get personalized investment advice.
This value claim fails the sniff test. You can find the same guidance from any number of broker/fund or investing websites—for free.
Hint: If you’re young—be more aggressive. If you’re older—be more conservative.
The implication from Robo-Advisor websites is that technology (science) is superior to humans (art) when it comes to investing.
While it’s absolutely true that there are many investing activities and functions that technology can do much more effectively and efficiently than humans (e.g., try creating a discounted cash flow model without Excel), there are just as many—if not more—things that artificial intelligence can’t do as well as humans.
I am a big proponent of using technology to improve investing performance. However, the epic fail for Robo Advisors is that everything they offer can be done through other broker platforms—for free.
This is one of my biggest gripes with Robo-Advisors. They imply that their investment strategies are “sophisticated” and predicated on exclusive “Nobel prize-winning research.” In other words, if you pay them, you’re getting something unique that’s worth that cost—better performance with less risk.
In reality, they all use index funds (ETFs) and vanilla investing strategies. They provide absolutely no added-value when it comes to strategies or risk reduction and/or management.
In fact, you could discover and learn everything they provide regarding retirement portfolio strategies in a Saturday morning snuggled-up to your laptop with a cup of coffee (Starbucks I hope—I’m long SBUX!).
For example, there are three primary approaches to portfolio allocation: income, growth and a blend (or balanced). We’ve all heard of the 60/40 split and so on! A simple 30-second visit to Vanguard reveals the three basic allocations for a blend approach:
The fact is that there are 10-15 good old allocation strategies that have been around forever (plus a few newer ones) and these Robo Advisors simply use them—repackaged as sophisticated.
If you’re interested in different strategies, I highly recommend visiting PortfolioCharts.com.
This site provides a free but excellent look under the hood of 18 popular ones—including numerous simple but informative charts for each. Just to give you an example of how simple it is to “reduce your risk,” here is their best cookie-cutter, risk-adjusted portfolio:
That’s how simple it can be folks. Setup a free account with M1 Finance and mirror this simple portfolio allocation (with automatic funding and rebalancing) using index funds (ETFs). No Robo-Advisor needed. And you maintain complete control of your portfolio, with the ability to change anything and everything as time passes, you get older and wiser, and you want to adjust your strategies—can’t do that with a Robo-Advisor (you’re stuck with what they want to do).
One last thought before moving on to the next claim: If your claim is that you are more effective at reducing risk, don’t you think your fancy algorithm would employ at least some degree of risk-parity?
Well guess again! Most don’t. Wealthfront will… but not until you have $100K sitting in your account!
So much for improved risk management or performance! No value added here—but you’ll pay for it anyway.
Robo Advisors love to use fancy words to dazzle and confuse unsuspecting folks—like “tax harvesting” or “tax-loss harvesting.”
They act like this is some complex, proprietary concept. In reality, all it really means is selling losers to reduce your capital gains tax basis. Is that really value added? Let’s consider this.
First, when it comes to long-run investing, selling (or cutting) losers is not always a good idea—there are lots of factors to consider beyond simply the tax consequences.
Second, tax harvesting works best at the stock level—not when investing in ETFs.
Third, you should be utilizing tax-advantaged accounts whenever you can anyway.
Fourth, you can utilize this same tax strategy with lots of other platforms—for free. You simply sell positions at the end of the year that have unrealized losses, and then buy them back (hopefully for the same price or less) at the start of the next year. Just pay attention to holding periods and wash-sale rules.
In the end, this could potentially add some value if you have a high taxable income—but not a whole lot and, again, you can accomplish the same thing for free.
When we look at the Robo-Advisor costs in a bit, you have to ask yourself just how much tax you really think you would save??? Even with moderate tax savings via harvesting (which I seriously doubt you would achieve with these services), you’re still in an overall losing proposition!
Finally, if you are in the high-income camp (where tax-harvesting might be materially beneficial), I would argue that you are too sophisticated for these types of services anyway—you should be managing your own portfolio in conjunction with a CFA and/or CPA.
Yes, they do. Finally, a claim that is 100% accurate!
Unfortunately, so do lots of other platforms—platforms that are 100% free and far better. Again, M1 Finance is a perfect example. You can automate your funding and your portfolio will auto-balance as well. Furthermore, you get those benefits without sacrificing investing flexibility and control (as you do with Robo Advisors) and you benefit from fractional shares.
And, in case you don’t want to do the homework and manage your portfolio, you can select from a large-number of pre-defined allocations—the same ones those Robo Advisors are using!
So, we’ve seen what you get for those 0.25% annual fees (zero added value), but how much will those fees really cost you?
I mean, for argument sake, let’s say you get a minimal value from the service. What are you paying for that over the life of your investment?
You’re paying a lot! That 0.25% may seem small and insignificant, but when compounded over the typical life of a retirement account—it adds up to BIG numbers!
BUT… Before we even look at the numbers, let’s focus a little more closely on that 0.25% fee.
Understand, all Betterment does is take your money and put it into Vanguard index funds. So, they are simply a middle-man… providing no real added value. The problem is, those Vanguard funds only have a 0.03% expense ratio… so they are charging you 8 times the expense ratio of those very funds!!!
Are you kidding me??? That’s a crazy (in a bad way) mark-up! And that doesn’t even include the index expense ratio–you still pay that on top of the 0.25% “management” fee!!!
For the love of all things soft and cuddly, do me a favor and just use a free platform like M1 Finance and put you capital to work without the overpriced middle-man!
But, if that wasn’t bad enough, let’s go ahead and take a look at a typical scenario and see what it will cost you if you insist on burning bundles of cash paying them for nothing.
You’re 25 and just starting your retirement savings. You say, “Hey, I’m going to jump onboard with a Robo Advisor!”
You start your account with $10K and contribute $4,800 a year. That’s 10% (a typically recommended investing rate) of a $40K salary (typical of a college graduate starting out). Obviously, you may start off with a higher-paying job and you clearly will increase your investment dollars over time as your earnings grow—but let’s just keep that constant for illustration purposes. (Anything above and beyond this will only make the numbers worse!)
Finally, let’s say you plan to retire at 66.
Let’s compare the costs between simply investing in ETFs (with an average expense ratio of 0.1%) and investing with a Robo Advisor (0.25% plus the same 0.1% ETF expense—you still have to pay those!).
We’ll calculate the costs based on a 4%, 5%, 6%, 7% and 8% annualized return.
That measly 0.25% Robo-Advisor fee will cost you roughly $32K at a 6% return!
And, as that’s only half the story.
Not only did you pay $32K in additional fees, but you have to consider the compounding effect on that lost money. Your actual portfolio value would be $72K lower (-7.4%) when you retire than if you had simply invested in index funds yourself on a simple and free platform!
And if you managed to average a return of 8% (high but doable), you would have paid $49K in additional fees and lost a whopping $139K in portfolio value!
Now, you have to ask yourself… was that dubious added-value worth $139K? I would argue absolutely not!
You may enjoy writing $50K checks to others for nothing… but I for one don’t!
The unambiguous verdict is that the concept of Robo Advisors is great. However, you can accomplish the exact same thing with very little time, knowledge and effort… and save $139K by doing it for free!
And if you actually apply yourself and put a little effort into managing a portfolio beyond simple ETFs, you can do sooooo much better!
Don’t get taken advantage of…
My recommendation: Avoid Robo Advisors Like the Plague!
Just in case you still had some lingering doubts… here’s a great video clip from Graham Stephan explaining basically the same thing (albeit a bit more humorously):
Now let’s get our weekly passive-income portfolio update!
As we close out the week and our fifth month since portfolio inception, we currently have a portfolio value of $3,123.23—up from our starting value of $500 on March 13th.
In terms of market performance, we are down -9.0% since inception, down -7.0% over the past quarter, and down -4.8% over the past month.
I know that’s a lot of red—but I’m actually very excited about that. We are seeing tremendous opportunities to increase our yield-on-cost in a large number of undervalued holdings.
Winning at the dividend-growth game long-term requires a very different mindset. Please, I highly encourage you to read my recently published article Paradigm Shift: Dividend vs. Growth Investing Mindset.
It will open your eyes to how you need to play the game and the counter-intuitive mindset you need to approach it with!
We have earned $58.00 in dividends since inception, $46.61 over the past quarter, and $32.86 during the past month. We’re looking forward to the end of the month, when we can share the final numbers for August–right now we’re at $21.45 and expecting to push $25.
Dividends continue to trend in the right direction with basically 57% of our earned dividends coming in the last month (representing just 20% of the portfolio’s lifespan).
Our yield-on-cost (YOC) has risen to 7.6% and our current yield is 8.6%. Again, as I noted above, we are seeing lots of opportunity and plan to continue deploying capital to build our YOC.
Below is a graph of our YOC and current yield since inception. From a portfolio-level perspective, anytime YOC is below the current yield, it’s a targeted buy zone—there is opportunity to increase our capital efficiency (i.e., raise our YOC).
To wrap up, here are our current allocations by capitalization and asset type:
We hope you’ve enjoyed this week’s update on our public-view dividend growth portfolio and my always-opinionated (but usually valid and hopefully beneficial) discussion.
You can always view our Wicked Capital dividend growth portfolio at https://m1.finance/1zUclN2JL
If you’re interested in starting an M1 Finance portfolio, please consider using our referral link https://mbsy.co/sZVS3 and we’ll both get some free cash!
That’s just one more reason to start your dividend growth investing today! It’s never too soon to start working towards your financial freedom!
Remember, when it comes to investing… you’re perfectly capable of doing it for yourself and doing it better than others will do it for you!
Avoid the Robo Advisors. You can save the money, gain flexibility and control, and outperform the robots by simply using free and automated ETF-investing options like M1 Finance. And with a little effort, you can manage a more complex dividend-growth portfolio and reap the rewards—both financially and in terms of personal satisfaction!
If you’re interested in dividend growth investing—you’re in the right place! We focus exclusively on helping others be as successful as possible with this approach and we hope you’ll continue to return to our site to learn, grow, sharpen your skills, and find effective and positive ideas and motivation!
Soak it all in, take and use what you want, modify it to fit your unique situation, and keep building your own portfolio with an effective long-run plan and strategy.
If you’ve got a question that you’d like us to address in a future article—simply tweet us a comment at @WickedCapital
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