CAN YOU ENTRUST A ‘ROBOT’ WITH YOUR RETIREMENT SAVINGS?
Back in the 1990s, long before ETFs and robo-advisers, I would write a periodically updated column in this newspaper on something I dubbed the “Rip Van Winkle” portfolio. I argued a simple portfolio of two actively managed mutual funds — one a Canadian balanced fund, the other a global equity fund to maximize what was then the 30 per cent foreign content limit in RRSPs — was all average investors needed to create a hefty RRSP nest egg.
The idea was to create a “set it and forget it” portfolio that would run on autopilot over the decades, so even someone who was asleep the whole time — like Rip Van Winkle, a character in a short story by Washington Irving — could awake at retirement and be pleasantly surprised by how much the retirement nest egg grew while he or she was asleep.
This assumes “Rip” set up a pre-authorized chequing (PAC) arrangement and automatically diverted funds each year to an RRSP or equivalent. He wouldn’t worry about asset allocation because the fund managers of Trimark Income Growth (the balanced fund) would take care of that. That fund has a compound annual return of 6.27 per cent since inception, as of Nov. 30, 2017, which is certainly more than today’s GIC rates.
Similarly, “Rip” wouldn’t worry about what global stocks to own because the manager of the global equity fund (Templeton Growth Fund) did so on his behalf. That fund has returned 11.28 per cent compounded since inception in 1954, and 7.02 per cent for the 15 years to Nov 30, 2017.
Now we’re in the year 2018 and low-cost ETFs are increasingly displacing mutual funds. I’d argue that so-called “robo advisers” that assemble portfolios of ETFs are the 21st century equivalent of the Rip Van Winkle portfolio. True, the industry prefers to call these “online investment services” or “digital investment solutions,” to use the phrase of Wealthsimple Inc. portfolio manager Michael Allen.
At least 15 robo services have sprung up in Canada in the last five years. They are similar to the Rip approach, but instead use passively managed ETFs. Typically, they invest in half a dozen ETFs and handle your asset allocation and security selection (including equities, fixed income and other asset classes), automatically rebalance at least once a year, let you set up auto-contributions and so on.
Instead of paying the Canadian average of 2.2 per cent in mutual fund Management Expense Ratios (MERs), a typical robo service charges just 0.5 per cent of assets under management (annually), plus the MERs of the underlying ETFs, which can range from eight basis points to about 55 basis points, depending on products selected. (A prominent exception is Toronto-based NestWealth.com, which doesn’t levy asset-based fees but instead charges a monthly subscription fee: making it a good deal for wealthy boomers with significant financial assets already accumulated.)
Asset-based robo services are particularly suitable for millennial investors just starting out or indeed anyone who doesn’t want to get their hands dirty investing and is reluctant to pay the fees needed to hire professionals to do it on their behalf. Millennials were the initial targets of the robo firms, although some — notably Toronto-based Wealthsimple — are moving upmarket to capture the assets of older, more affluent investors. Wealthsimple lowers fees from 0.5 per cent to 0.4 per cent once portfolios reach $100,000. It has more than $1 billion under management, mostly inside registered plans.
Costs aside, the question arises whether you can trust your retirement to a mere “robot.” For starters, the term robot is a bit of a misnomer, even if it’s a handy shorthand way for the media to categorize this approach to investing. Most Canadian robo advisers do have an element of human advice or “hand holding,” even though the mechanics are automated: from the initial sign-on (often via a smartphone) to the preliminary risk tolerance questionnaire.
Like the “Rip” portfolio, robos do just about everything sophisticated money managers do: variants of a standard portfolio consisting roughly of 60 per cent stocks to 40 per cent bonds, with the precise proportions varying with age, risk tolerance and investment objectives.
The entry of Canadian banks into robo services is legitimizing this mode of investing, just as the banks did in the late 1990s when they entered the no-load mutual fund space. While the independent robos largely use the ETFs of industry giants such as BlackRock and Vanguard, the banks are setting up robo services using their own proprietary ETFs. BMO was first, launching first its own family of BMO ETFs, then a robo service in 2016 called “SmartFolio,” which uses those ETFs. It’s aiming to capture older investors and seniors with the recent addition of RRIF capability.
Since then the Royal Bank has followed suit, first launching a family of RBC ETFs and is now pilot testing a robo service called InvestEase that will use those ETFs. As with mutual funds, it’s only a matter of time before the other big Canadian banks jump on board, so millions of Canadians will soon indeed be entrusting their retirements to “robots.”
On Feb. 1, Vanguard Canada unveiled three asset-allocation ETFs comprised of seven of their own equity and bond ETFs. With a management fee of 0.22 per cent (it backs out the fees of the underlying ETFs), Vanguard has seriously undercut both the robo advisers and global balanced mutual funds. In effect these are updated versions of the very low cost Rip Van Winkle portfolio that do almost all of the work for you.
All of these automated approaches prevent investors from “meddling ” too much on the mechanics of investing, thus taking the emotion out. Before robos, the best way to keep fees down was to buy your own securities at a discount broker. Only a minority of investors have the skills or interest to do this. And it’s not clear that those who can do it well: emotional decision making ( buying high, selling low) can lead to lower performance.
The alternative used to be to rely on a traditional financial adviser, for which “you’re probably paying a premium for commission-based advice from someone incentivized to sell a specific product,” says Tea Nicola, co-founder and CEO of Vancouver-based robo adviser, WealthBar Financial Services Inc. “Your average investor underperforms the market, before and after costs,” Nicola says, “A set-it-and-forget-it strategy with a traditional firm would come with a high fee. But with a robo-adviser, you might pay as low as a third of what you would pay to get the same product in a mutual fund.”
Nicola says robos are the best of both worlds of reasonable fees and professional investment management, which is why WealthBar says robo investing means investing “FOR yourself, not BY yourself.”
Mind you, you can’t expect all financial advisers to embrace this new form of competition. Paul Philip, president of Don Mills, Ont.-based Financial Wealth Builders, insists there’s plenty of investment information out there but most clients need the “wisdom” of a human financial adviser who has been through all market cycles. “You need an adviser to look at the whole picture: an impartial trusted person.” There are limits to automation, Philip says. “Life is more complicated than pushing numbers. You need perspective from people you trust.”
Perhaps, but the way I see it is whether you’re asleep or not, you can entrust the investment management aspect of your retirement to a robot. That doesn’t mean you can’t also benefit from human advice. In a way, robos free good human advisers to focus more on financial planning, tax, estate planning and life coaching, truly providing the best of all worlds for everyday investors.