Algorithms are the secret sauce in the robo advisor model. They are inherently effective and cost-effective, and unsurprising to anyone living in a technology-enabled world, far less prone to error than human beings.
The computer algorithms used in most robo advisor platforms is based on Harry Markowitz’s Modern Portfolio Theory, which is a mathematical framework for creating a portfolio where the maximum return is achieved for a given level of risk. Markowitz won the Nobel Prize in Economics for his work.
Robo advisors are successful because they are built on sound research and powered by technology capable of managing and executing millions of error-free transactions a day. This level of performance is simply impossible for a human to reproduce.
In addition, most robo advisors include value-added services such as automatic and frequent rebalancing and tax loss harvesting at no extra cost.
When it comes to performance, the traditional ETF-based robo advisor model outperforms actively managed funds virtually every time. They tend to follow the market, not necessarily beat the market, but then again, human advisors rarely if ever beat the market, either.
Given all that, most people who choose the robo advisor model don’t miss the lack of human oversight over their portfolios. However, if you’re one of the people that likes that level of personal attention, there are robo advisor platforms for you.
Betterment and Wealthfront, the two largest robo platforms, both offer packages with access to a human financial advisor. Major investment firms such as Fidelity and Charles Schwab also offer a hybrid robo advisor model with human financial advisor oversight, although they tend to require a higher account minimum to access these services.
Ultimately, if you’re simply looking for something or someone to manage your investments, a robo advisor gives as good as, if not better, service than a human financial advisor. On the other hand, if you’re looking for financial planning services, a robo advisor will likely disappoint. For that, you’ll definitely want a human financial advisor.