Robo-advisors set to disrupt UK wealth management industry

Jul 27th, 2015 | By | Category: ETF and Index News

Exchange-traded funds (ETFs) have long been heralded for their ability to provide investors with security market returns at a reasonable cost. The missing link for many investors has been a method to turn these building blocks into a complete portfolio solution which caters to their individual needs and to do so cheaply and easily.

UK FinTech start-ups want to revolutionise ETF investing

Luis Rivera, co-founder and head of business development at ETFmatic.

Financial technology companies, such as London-based ETFmatic, are working to fill this niche through technology-driven asset-allocation solutions and low-cost ETFs.

US-based online wealth managers, so called “robo-advisors”, have attracted investors’ attention, and their assets, in recent years. A new wave of tech-savvy investors, disillusioned by the financial industry’s high charges, lack of transparency and inconsistent performance are turning to websites such as Wealthfront and Betterment to manage their savings. The European market has been slower to embrace this coming change.

ETFmatic aim to provide the UK and continental European investors with diversified, passive ETF portfolios which have been constructed to meet their individual risk and return requirements, as well as their personality and behavioural traits. By automating the portfolio construction process and using ETFs, they are able to provide exposure to a combination of asset classes and geographies at a fraction of the cost of traditional investment advisors and managers.

Through the ETFmatic app, which is currently in simulation mode, new investors are asked a series of behavioural questions which scores them on their preference for capital preservation versus profit maximisation, how frequently they wish to rebalance, and how they react to adverse markets. The investor is then assigned one of 125 strategic portfolios, each with its own set of portfolio management rules, which the team behind ETFmatic have constructed to fit the wide range of investor requirements.

ETFmatic's online app

The ETFmatic app makes sophisticated portfolio solutions available at the touch of a button.

“What we believe is that there is a portfolio which behaves the way you want it to behave” says Luis Rivera, co-founder of ETFmatic, speaking at their office in East London’s Google Campus. “Instead of being sold a portfolio which has been put together by someone else and pushed because of the incentives that are in place, instead we ask, ‘what are your needs?’. If you are you the sort of person who gets scared when there is a market downturn, then we need to adjust for that. There are 125 portfolios allowing each customer to express their opinion and have it their way”.

Luis’ background is in management consultancy and he has been involved in a number of start-up ventures. “One of the advantages of not coming from the investment industry is that we are way more open to the right answers,” says Rivera. “We started by excluding what doesn’t make sense. What we ended up with was a range of reasonable portfolios. Within this range it’s a personal choice, particularly for a sophisticated customer.”

To guide the investor, the ETFmatic app provides ongoing analysis of how their portfolio is progressing towards their goal. If they are ahead or behind in their progress, the app will prompt them with suggestions to get them back on track such as altering the level of risk, their time horizon, or the amount they are contributing.

Not only will investors be able to create portfolios tailored to their needs, they will also be charged significantly less for the service than traditional private client wealth managers. These cost savings can have a tremendous effect on investment returns over long time-horizons. According to Rivera, “So many people could benefit by just putting away the same amount every month into a vehicle with quality underlying assets, that’s rebalanced to its target weights, and charges a low fee. That could mean so much for the average investor. The difference of that person paying an additional 2% in fees per year could amount to hundreds of thousands of pounds over a 30-year period. That’s life changing.”

The likes of Warren Buffett, Jack Bogle and Charles Ellis, all trailblazers and thought leaders in the investment industry, have long maintained that following a low-cost, passive investment strategy can provide superior returns. There is also a strong argument that costs are a more important determinant of returns than asset allocation. Research by Cambria Asset Management’s Mebane Faber has shown that the performance gap between the best and worst performing asset allocation strategies is eroded away when you apply the highest level of fees to the best performing strategy.

In the US, the online wealth management revolution is well on its way. Wealthfront and Betterment have already raised significant assets under management. Their success has not gone unnoticed and has prompted industry giants such as Vanguard and Charles Schwab to release similar offerings.

In the UK, Nutmeg has so far spearheaded the movement, introducing investors to the concept of investing through an online platform which takes your personality and requirements into account. Compared to the offerings from most “robo-advisors” in the US, Nutmeg differs in that they follow an active management strategy.  By making investment decisions based on their analysis of market conditions, Nutmeg hopes to provide portfolio returns in excess of the relevant benchmark. This is a strategy which can contribute to, or detract from, performance depending on the investment team’s skill and luck.

US providers are also well ahead of their UK counterparts when it comes to fees. For example, Wealthfront waives management fees on the first $10,000 invested, and charges a 0.25% advisory fee on assets thereafter. In comparison, Nutmeg charges a management fee of 1.0% on the first £25,000 invested, a significant impediment to net returns for young investors or those with less savings. This fee reduces as larger amounts are invested, falling to 0.30% for those with over £500,000. ETFmatic advertises a competitive 0.50% flat-rate management fee.

It is easy to draw parallels between the “robo-advisor” revolution and the disruption that Napster and iTunes made to the music industry. The question is whether investors are as willing to accept change as those teenagers who drove the early success of music downloads.

Rivera’s take on this is clear: “The way I think about it, I was that kid 20-years ago. It’s those people who are now 35 and are getting Ubers and using Betterment and Wealthfront. I feel that our generation is changing one industry at a time, and I do feel that this is the time for the finance industry. We don’t want to invest the way our parents did.”

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