Guide: What is a Robo Advisor and How to use it?

The robo advisor emerges as an absolute game changer, but what exactly are these technologies and how can you use them for your benefit? A robo advisor is actually a digital platform with the potential to revolutionize financial planning and investment services, a convenient feature in the midst of platforms such as Taveki, that provide entertainment for users.

These platforms used automated, algorithm-driven processes that allow them to minimize the need for extensive human supervision. Now, let’s delve into the robo advisor world as we take a deeper look into its impact.

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What Is a Robo Advisor

As mentioned above, put in the simplest of words, a robo advisor is a sophisticated digital platform designed to streamline financial planning and investment strategies. 

These platforms do not require much human intervention as they use leveraging algorithms to automate decision-making processes for users.

Typically, a robo advisor will ask you some questions —think of it as if you were taking an online survey. 

The robo advisor then asks you the right questions to get to know you better: it needs to know what your financial situation is and what are your future goals. 

By answering such questions, you allow the robo advisor to get enough information so that it can offer well-tailored advice. After getting enough information, the platform will be able to even make automatic investment decisions on your behalf. Efficient, right?

You may easily find some options out there under the name of “robo advisor”, yet, these platforms go by various names. So keep in mind you can also find them as “automated investment advisors”, “automated investment management”, and even as “digital advice platforms”.

Either way, these platforms have similar functionalities and they all take you farther in the same investment path.

How Do Robo Advisors Work?

A robo advisor predominantly relies on passive indexing strategies, often based on modern portfolio theory (MPT). 

This strategic approach optimizes portfolios, balancing risk and return. Users typically relinquish control over selecting specific mutual funds or exchange-traded funds (ETFs), trusting the algorithm to navigate the investment landscape.

What Is the Modern Portfolio Theory?

MPT is an investment framework that enables investors to build an asset portfolio aiming to optimize the expected return while managing a specific level of risk. 

The key part here is the assumption that investors tend to be risk-averse. 

In other words, when faced with a choice between portfolios with the same expected return, investors consistently lean towards the option with lower inherent risk.

A Little Background

If this is the first time you hear about the robo advisor technology, you may have a few questions here and there. 

Well, robo-advisors’ debut takes us back to 2008, with Betterment and Wealthfront leading the charge. These pioneers reshaped the financial landscape as they introduced the concept behind robo advisor —automation to investment advice. 

Betterment’s original focus on rebalancing assets within target-date funds and Wealthfront’s tech-centric approach marked the beginning of a transformative era.

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Robo Advisor’s Figures

The robo advisor industry has experienced remarkable growth. Such projections for 2027 expect client assets to reach a staggering $5 trillion globally. 

One could argue this momentum reflects a shift in how the world sees and engages with financial planning, as investments continue to grow in popularity as a subject for discussion.

But, what are the features of robo advisors that make it such an interesting platform for curious investors? Let’s take a look.

Features of Robo Advisors

Rebalancing Bands

A key feature of robo advisors is the use of rebalancing bands. These bands establish target weights for each asset class, ensuring optimal portfolio composition. 

In times of market fluctuations, a robo advisor will automatically rebalance portfolios to maintain the desired asset-class weightings.

Tax-Loss Harvesting

Another key factor when it comes to analyzeng the funcionalities of a robo advisor is tax-loss harvesting, a strategy executed seamlessly through algorithms, but how is it that it works?

By selling securities at a loss to offset capital gains taxes, robo-advisors enhance tax efficiency for users. 

This sophisticated approach was once considered complex and expensive, now made accessible through automation.

Benefits of Robo Advisors

We have already covered the basics of robo advisors, right? At this point, after establishing some of its features, it is safe to say they offer a myriad of advantages. 

For starters, they serve as low-cost alternatives to traditional advisors, with fees often well below the typical 1% charged by human financial planners. 

Of course, accessibility is also a key factor here. Users can easily access their account 24/7 to get tailored advice and automatic investments. There’s no doubt these features make these platforms attractive to a broad spectrum of investors, from inexperienced to those looking for ways to optimize their own time.

Challenges of Robo Advisors

Of course the robo advisor industry has its own challenges. Although the merits of robo advisors are evident, these platforms do not escape criticism.

Some argue they lack empathy and sophistication, especially in navigating unexpected crises. A recent study revealed that consumers prefer a blend of human and technological guidance, particularly during extreme market volatility.

Regulatory Landscape

Robo-advisors operate within the same legal framework as human advisors. Registration with the Securities and Exchange Commission (SEC) and compliance with securities laws and regulations are mandatory. 

Additionally, many robo-advisors are members of the Financial Industry Regulatory Authority (FINRA), providing users with avenues for research and transparency.

How Do Robo Advisors Get Revenue?

Understanding how robo-advisors generate revenue is crucial. 

The key factor here are assets under management (AUM), as most robo advisors rely on wrap fees based on AUM. 

Payment for order flow (PFOF) and marketing targeted financial products further contribute to their financial ecosystem.

Choosing the Right Robo Advisor for You

As the robo advisor landscape expands, selecting the right platform becomes pivotal. 

To make such a decision you should keep in mind certain factors —investment options, fees, and additional features should guide your choice. Make sure to do some research so that you can make sure to align your financial goals to a robo advisor that suits your needs.

Either way, the robo advisor is quite an interesting emerging technology that is worth learning about. In case you’re considering this form of investment make sure to think your decision through and search for professional advisors if needed.

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