Top 3 Issues Advisors Will Face in 2014, Part 1: Robo-Advisors

As we begin 2014, a number of issues loom that may have broad impact for advisors in the coming year. Perhaps most significant is the fact that we may finally see some activity on the regulatory front; the next fiduciary proposal from the Department of Labor is targeted for August 2014, and while the SEC may be taking a back seat on the fiduciary issue and waiting for the DOL to act, the regulator has committed itself to step up oversight (i.e., examinations) of investment advisors, and may even take up the recent SEC Advisory Panel’s recommendation to begin levying user fees on RIAs to help fund increased oversight. On the other hand, the CFP Board may also face its own turmoil this way in its ability to oversee CFP certificants, as the challenging Camarda case plays out.

In the meantime, the slow-motion trainwreck that is the advisory industry’s demographics problem will continue to play out. The latest Moss Adams study showed that employee advisors are now outnumbering owner-advisors, yet the number of advisors available to hire who have capacity for new clients continues to dwindle. While the anticipated mass exodus of retiring advisors has been more like a trickle so far, for a number of reasons, the veteran advisors who remain still cannot solve the capacity of growing firms that need to hire younger advisors to take the lead. In the coming year, the problem is going to become a lot more noticeable.

Meanwhile, the potential for a bear market will continue to loom in the coming year. Whether 2014 turns out to be the next stock bear market—or a rapid unfolding of the long-anticipated bond bear market—remains to be seen. But if 2014 is the next big one, expect the decline to ripple across the industry, as advisors who have rapidly grown their AUM businesses receive a stark reminder of the importance of profit margins to protect against the inevitable revenue declines that come from time to time. In fact, many advisory firms are now so large that they cannot simply grow their way through a bear market with new clients!

In the next two blogs in this series, we’ll address those issues. In this blog, we’ll go deeper into the continued rise of the “robo-advisor.”

While the robo-advisors seem to have exploded onto the scene in 2013, the reality is that measured by actual numbers, most of them are still quite tiny, especially relative to the venture capital they raised. None appear to actually be economically viable or are even running at a breakeven pace yet, much less making the return-on-equity profits their funders expect.

In the coming year, we’ll begin to see which robo-advisors will outpace the others and pull ahead, and many will aim to refine their models; some may even decide that it’s more constructive to be a partner with advisors than a competitor, given the reality that most robo-advisors are actually more in competition with online brokerage tools like Schwab and E-Trade than human advisors. At the same time, it may be the heavily technology-enabled advisors, who I call the “cyborg advisors,” who will really begin to shine, blending the best of technology and human skills that pulls ahead of both the robo-advisors and the humans.

Robots Vs. Cyborgs (Vs. Humans)

In retrospect, it seems like 2013 may have been the year of the robo-advisor, given how much attention they received in the industry and consumer media. From Betterment and Wealthfront to LearnVest and Personal Capital, the robo-advisors have made a big splash in the advisory world. The reality is that their actual businesses are still small; while Betterment and Wealthfront are each touting several hundred million dollars in AUM, at their billing rate of 0.25% or less this amounts to less than $1 million in revenue, which doesn’t likely even cover the salaries of their dozens of computer engineers and other staff.

That means that while they’re visible and perhaps gaining some traction, none of the robo-advisors are even at breakeven viability yet, much less profitable (and certainly not at the levels of return-on-equity that their venture capital funders likely expect). Moreover, none has had to even try to navigate a bear market with their ‘clients’ to find out whether the websites, apps and algorithms are sufficient to help investment clients “stay the course” in the midst of turbulent markets.