In the first part of our post, we discussed the pros and cons of the so-called “robo-advisor” that many are predicting as the future of financial advice. In today’s post, we’ll continue with my argument as to why that’s too simplistic.
Behavioral problems are one thing uniquely suited to human-to-human interaction, as we seem to be hard-wired to feel more accountable to other human beings than we do to a computer. It's easy to just stop opening the statements showing your account balance or to stop logging into the website that shows you how badly your investments are doing; it's a lot harder to blow off an established personal relationship with a human advisor serving as your accountability partner.
In fact, for years many advisors have suggested that their primary benefit is not designing quality portfolios, but helping clients stick with their portfolios and deal with the so-called "behavior gap," the difference between the returns the investment markets deliver, and the returns investors actually earn after accounting for their potentially poorly timed decisions.
While it's not clear how large the behavior gap is for all investors in the aggregate—although DALBAR has tried to measure the phenomenon for years, its results are highly sensitive to the point of comparison—it's nonetheless clear that there is certainly at least some subset of investors who experience the problem. For those investors, who arguably are the ones who need the most help, and are most likely to seek out a human or robo-advisor for assistance, it's just not clear whether a robo-advisor is enough. Can that advisor talk them off the ledge while they're in the midst of panicking from a market decline, when there are no human beings to talk to at all? (I should point out that to their credit, several of the robo-advisors have now hired behaviorists to at least try to tackle the problem).
Similarly, it's not clear whether robo-advisors will be able to keep investors from just chasing returns in a bull market. It's also unclear whether the entire growth of robo-advisors in the first place is just investors chasing appealing short-term returns, as all of the robo-advisors have been established since the financial crisis and none has ever navigated a single bear market!.
Notwithstanding the importance of having human beings to engage other human beings in their behaviorally driven financial problems—in addition to the other wide range of tax, estate, insurance, retirement, and additional topics that comprehensive financial planners address—the reality is that while purely robot-driven solutions may not drive enough behavior change, purely human-driven solutions can be remarkably inefficient. That inefficiency leads to higher costs for consumers and makes financial advice unaffordable for many. While there are some things that humans do far better than computers, there are also many things that computers do far more efficiently than humans.
This is one of the reasons why technology has been on the rise with advisors in their own firms as well. In fact, the aforementioned list of robo-advisor investment value-adds are not unique; most rebalancing software packages used by advisors, from iRebal to Tamarac to TRX, are capable of implementing some or all of this, from good asset location decisions to timely rebalancing to tax loss harvesting. Good advisors have actually been leveraging dedicated software and technology to provide all of these features for nearly a decade since the first rebalancing tools came out, and long before the robo-advisors appeared on the scene. At best, the robo-advisors have simply repackaged (and perhaps done a better job at marketing and communicating) what the best human advisor firms already do (but without the rest of the financial planning advice).
On the other hand, this kind of technology adoption thus far has been a best practice, not a standard practice. Not all advisors have embraced and implemented technology, as the latest technology survey from Financial Planning magazine revealed that nearly 70% of advisors still have not adopted rebalancing software in their practices. The distinction is starting to matter, as a recent Fidelity industry study found that the practices of younger Gen X and Gen Y advisors are starting to outperform more established baby boomer advisory firms, largely as a result of their better, smarter tech use.
As time passes, it's becoming increasingly clear that the threat to human advisors is not technology and robots, but technology-augmented humans, bringing together the crucial relationship aspects of working with a human being with the scaled benefits of leveraging technology. This represents both the cutting edge of what many technology-focused advisors are doing now (as supposed by the Fidelity study), as well as recent venture-capital-funded startups like Personal Capital and LearnVest that pair technology and an online platform with real human financial planners.
The bottom line, though, is simply this: in a competition between human advisors and robo-advisors, the real winner may be the technology-augmented human, which I am hereby dubbing the "cyborg" advisor: part human, part technology, integrated together to allow each part to do what it does best for the most efficient, most comprehensive, and most behaviorally accountable client solution.