There has been a good deal of public discussion regarding how traditional manufacturing jobs have been decimated due to outsourcing to foreign countries. The truth is that robotics (powerful computers running sophisticated algorithms) have played an equally large role in the de-industrialization of the U.S. economy.
The next industry set to be transformed by robotics or robotic process automation is the financial services industry. The prospect for widespread job losses is just as threatening for these white collar workers as it has been for traditional blue collar jobs.
One of the major areas of financial services to be impacted by robotics is that of financial advice. Commonly referred to as “robo-advice,” it basically involves replacing face-to-investment advice with web-based investment guidance and execution. The emergence of robo-advice is creating its share of job anxiety.
However, while some advisors are concerned that their role will become obsolete given the emergence of robotics in the investment advice arena, many are embracing the new robo-investing technologies as a means to leverage themselves and enhance their advisory practices.
In a recent report, MyPrivateBanking creates a distinction between “pure” robo-advisors and “hybrid” robo-advisors. The former represents a fully automated investment program without the direct involvement of a human advisor while the latter involves an advisor utilizing a robo-advise platform to manage their client’s investment portfolios. The report projects that by the year 2025, the hybrid robo-advisors will manage 10% of all investable assets. By comparison, the report projects that pure robo-advisors will only manage 1.6% of global wealth. (“Hybrid Robos: How Combining Human and Automated Wealth Advice Delivers Superior Results and Gains Market Share,” MyPrivateBanking, 2016)
It would appear that rather than robotics being a job killer in the wealth management field, for many it creates an opportunity to focus on those aspects of financial advice that are best performed by humans while offloading much of the tedium of wealth management onto a robo-advice platform.
The DC Robo-Advisor
While research into the hybrid model has been focused on the wealth management advisor, the DC specialist is also being impacted by the emergence of robo-advice and is, perhaps, in an even better position to leverage robo-advice platforms.
Although digital advice has been around for more than 20 years (Financial Engines was founded in 1996), it has not been the core approach to asset allocation in DC plans. This is changing, though, with the largest robo start-up, Betterment, entering the market with a full-service DC offering. There are also the traditional DC investment advisors like Russell Investments, which recently introduced “Adaptive Retirement Accounts,” a DC-focused robo-advice platform. There are many other DC providers that have DC robo-advice offerings in the works, including multiple firms that distribute their offerings exclusively through advisors.
Read more commentary by Jerry Bramlett here.
As a result of the recent successes of a number of new DC robo-advice offerings, many plan advisors are beginning to think through how they can best adapt their practices to this new model of investing. What many advisors are realizing is that, just as in the case with advisors focused on wealth management, the advent of the robo-advice model creates an opportunity to expand (not diminish) their role.
Adopting a DC Robo-Advice Platform
For the DC robo-advisor, many aspects of their role remains the same:
- Educate plan sponsors on their role and responsibilities as plan fiduciaries
- Construct a procedural framework for managing plan assets
- Recommend a fund lineup, including asset allocation portfolios
- Help create (and often execute) an employee communication strategy
- Provide ongoing feedback in the form of periodical reviews
In additional to these traditional tasks, with a DC robo-advice offering, there is the need to:
- Recommend a robo-advice provider
- Approve the investment methodology (algorithms)
- Develop and recommend a default (QDIA) strategy
Recommending a Robo-Advice Provider
Not much is required of a record keeping platform in order for it to offer one fund versus another. A robo-advice platform, on the other hand, must be fully integrated with the record keeping platform. At this early stage of the robo-advice market trend, most of the new start-up robo-advice firms are not integrated with even one record keeping platform. Even the traditional DC advice providers that have been around for years (e.g., Financial Engines, Morningstar) are not integrated with all record keeping firms.
In addition to working through the record keeper integration issue, advisors need to perform due diligence on the robo-advice provider and assess areas such as:
- The long-term viability of the provider in the DC investor space
- The overall quality, effectiveness and look and feel of the user interfaces
- The cost of the robo-advice and the pricing structured (e.g., tiered)
Algorithms That Power the Advice Platform
At the heart of robo-advice platforms are “algos” (algorithms) that create portfolios based on an individual’s investment risk tolerance profile and savings goals. In the past, it was the digital advice provider who supplied the algos that determine, based in data inputs, how individuals are invested. This is changing, with one robo-advice provider in the DC space (NextCapital) allowing for individual asset managers to utilize their own proprietary investment methodology to drive the individual investment allocations. It is expected that many of the robo-advice providers that are targeting hybrid robo-advisors will follow suit and offer what is, in essence, an “open architecture” robo-advice platform.
It is the responsibility of the plan advisor to review and recommend an investment methodology. At this point in time, there are not many good ways to benchmark robos. The alternative to benchmarking is to study the depth and breath of the investment management team overseeing the programming of the robo-advice platform, as well as to consider the suitability of the investment methodology for DC investing.
Qualified Default Investment Alternative (QDIA)
Generally speaking, robo-advice solutions meet the QDIA requirements. However, thought needs to be given to the criteria used to determine default allocations. Most robos have what is basically a glidepath imbedded in the asset allocation overlay. In addition to using age as a default guide, other data can be included (e.g., gender, contribution level, account balance, salary), further customizing the default parameters. There needs to be some consideration as to how to best design the default structure especially considering the fact that many (if not most) DC investors will not engage the robo platform beyond the default stage.
Setting up and managing a robo-DC plan brings with it increased challenges over and above managing a fund lineup. Since many of the robo-advice firms are still in the start-up mode, the integration with record keepers is lacking for most platforms and there is a dearth of benchmarks from which to measure the success of one provider over another.
In spite of these challenges, like the wealth manager who is a hybrid robo-advisor, the DC advisor is in the position to leverage technology as opposed to being replaced by it. Through the utilization of a robo-advice platform, an advisor can essentially magnify its ability to implement fiduciary-level investment advice across the entire employer group, regardless of the size. Is that not the Holy Grail of DC investing?
Jerry Bramlett is the Managing Partner of Redstar Advisors, a boutique consulting firm focused on digital advice solutions. He has also served as the CEO of three full service DC providers: The 401(k) Company, BenefitStreet and NextStepDC. This column originally appeared in the most recent issue of NAPA Net the Magazine.