Robo-advisors in trading started becoming popular around a decade ago. The concept was sound. While trading is far from an exact science, algorithms can process far more data than the human brain. Individuals could make good decisions based on the information they had, but they would never come close to the accuracy of a robot.
Since then, the use of robo-advisors has skyrocketed. Traders – both newbies and experienced investors – have taken advantage of the opportunity for a less hands-on approach. In 2022, Fidelity Investments alone manages a portfolio worth $1 trillion.
But people are still asking the same question: are robo-advisors really a surefire way to start trading? If they truly are effective, then why is there still so much debate surrounding them online?
Here’s what you need to know.
What does a robo-advisor do?
If you believe the hype, a robo-advisor will help you set up a portfolio based on your preferences and expectations. It will then do the trading for you, using innumerable data points to make excellent decisions. In theory, it is the most foolproof way of investing.
However, in practice robo-advisors are more limited than they sound. Robo-advisors are never going to make the biggest decisions for you. The way you go about trading will come down to your own sensibilities. If robo-advisors could simply create a perfect portfolio for you, everyone would use them to make millions of dollars.
Robo-investing is therefore seen as more of a convenience than a money-making shortcut. Instead of executing trades manually (or even setting up your own automated trades), the robo-advisor does it for you. It comes at a cost, although most robo-advisors are inexpensive.
Circumventing human emotions
There is another benefit to using robo-advisors. When executing your own trades, you are subject to the whims of your human emotions. You may make an instinctive decision that you really shouldn’t have. You may miss the right opportunity because of a hunch. Or you might simply get scared and fail to execute a trade at the right time.
The reality is that money is a very emotional concept for most people. We all have associations with what it means to have or not have money. We all fear that we could lose everything. We all place at least some of our self-esteem and validation in the acquisition of money. This leads to many terrible decisions that can sink the portfolios of some otherwise excellent traders.
Robo-inveting helps by taking you out of the equation. Any good trader knows that they can be their own worst enemy. For some people, this is more than enough of a reason to use a robo-advisor.
It also helps that many providers offer hybrid robo-advisors. While the algorithm carries out the trades, there is a human advisor available when you need to make the biggest calls. They will be able to assist you in setting up your portfolio to best suit your needs.
Is this enough of a reason to use a robo-investor?
Are robo-advisors falling short?
As we mentioned at the start, the fact that questions still remain over robo-advisors demonstrates that they are not everything they set out to be. They are not generating huge amounts of cash for investors who would otherwise be making nothing.
During the pandemic in particular, robo-advisors failed to prove themselves. This was a time in which the chaos of the markets created the perfect environment for robot-driven trading. But regular DIY investors did about as well as robo-advisors did. In the debate between robo-investing vs DIY-investing, there was no clear winner.
With all this context, you may not be particularly inspired to use robo-advisors. However, if it is going to make trading easier for you, it really comes down to your personal preference. If you are not going to trade at all without the help of a robo-advisor, you should definitely consider using one.
Robo-advisors are never going to provide an immediate route to financial success. In fact, anything that touts itself as a get-rich-quick scheme is likely a scam. The persistence of robo-advisors comes down to providers managing expectations. They no longer present robo-advisors as the be-all-and-end-all, which is why hybrid human and robo-advisor portfolios are becoming the norm.
Get into trading with a robo-advisor with revised expectations. You still stand to lose money, and should never trade with money that you need to make ends meet.