Should You Go With A Robo-Advisor Or Build Your Own Portfolio Of Mutual Funds?

With the rapid rise of robo-advisors, you might be wondering if you should consider using one of these platforms, or just build your own portfolio of mutual funds. After all, that’s basically what robo-advisors do. If they’re just going to create a portfolio based on six to 10 mutual funds, you can do the same thing yourself.

There are even advantages to doing it yourself. But if none of those advantages (see below) appeal to you, or if you just don’t have much interest in building your own portfolio, then robo-advisors make more sense.

When is a robo-advisor the better strategy?

When you don’t know where to begin when it comes to investing

If you’re new to investing and don’t know how to go about it, robo-advisors are the perfect way to begin. You start by taking a questionnaire that indicates your investment goals, your time horizon and your risk tolerance. Based on that information, the robo-advisor creates your portfolio.

You don’t need to select investments, or maintain them through periodic rebalancing and dividend reinvesting, the robo-advisor handles all of that for you. Your only job is to fund the account, and let the platform do the rest.

When you’re content to get a return on your money, but you’re not looking to get rich

Some people invest money because they want to get rich, or just obscenely prosperous. But if that’s not your goal, and your intention is just to get a steady return on your investment, robo-advisors will do that for you.

Your money will be invested in a mix of exchange traded funds that will be invested in stocks and fixed-income investments. That means that your investment return will always be something less than what the stock market alone is doing. But that diversification will improve your returns during downturns in the stock market, by shielding at least some of your money in bonds.

It’s basically growth with at least some emphasis on capital preservation.

When you have little money to invest

Mutual funds have steep upfront investment minimums. They’re at least $1,000, and often $3,000 or more. In order to be able to invest in three or four funds at a time, you’d need at least $10,000. If you’re a new or small investor, you probably don’t have that kind of money. Maybe you don’t have any money at all.

If that describes you, then robo-advisors are the perfect platforms to begin investing through.

Popular robo-advisors often require little or no money to begin investing. For example, Betterment requires a $10 minimum investment to get started, while Wealthfront requires just $500 to open an account, but you get the ability to create your own portfolio of ETFs OR choose one created by the experts over at Wealthfront.

When you just don’t have time to manage your investments

Maybe you do know how to invest your money, but you just don’t have the time or the inclination to do it. It Maybe you’re already tightly stretched juggling a job and at-home responsibilities. Or you might have extra time, but prefer spending it on leisurely pursuits and hobbies.

Whatever it is that takes up your time, robo-advisors can be the perfect investment platforms for you. They offer professional level investment management—based on modern portfolio theory – but at a fraction of the management fees charged by traditional human investment advisors. You can get on with the rest of your life, knowing that your investment portfolio is being taken care of by the people who do that for a living.

When is building your own portfolio the better strategy?

When you have successful investment experience

Robo-advisors are attracting largely new investors. Many are drawn to them precisely because they have little knowledge of investment strategies and tactics. But if you’re a seasoned successful investor, you may prefer do your own investing.

Mutual funds offer the advantage of built-in diversification. Each mutual fund that you invest in is an investment portfolio all by itself. But you can choose specifically which mutual funds that you invest in. For example, you can choose sector funds, that invest in specific industries or countries. These are a good choice if you think that they have greater upside potential than the general market.

Sector funds aren’t usually available with robo-advisors. But if you had success in choosing your own investments in the past, and feel comfortable taking chances on specific sectors, then investing in mutual funds will be the right strategy for you.

When you want some control over your investments

Not everyone is enthusiastic about turning their investments over to a manager. If you’re the kind of person who wants to have control over what you invest in, and when you invest, you’ll definitely prefer to build your own portfolio of mutual funds.

When you want even lower fees than robo-advisors charge

Robo-advisors charge management fees to handle your account. Those fees are low compared to traditional investment managers. They typically run between 0.25 percent and 0.50 percent per year.

But while that’s actually a pretty good deal, you may decide that you don’t even want to pay those fees. If you invest strictly in no-load mutual funds and exchange traded funds, you’ll be able to avoid the management fee completely. And everything else being equal, your investment performance will be better over the long run if you don’t have to pay those fees.

When you hope to beat the market, not just match it

Most robo-advisors are clear that they won’t beat the market. It’s just not the way these platforms work. Since robo-advisors typically invest in index funds, there’s virtually no chance that you could ever beat the market. And since they also diversify your holdings into bonds and other fixed income assets, you’ll generally underperform the stock market during bull markets.

If you want to beat the market, you have a much better chance by building and managing your own portfolio. This is because rather than investing in index funds – which only promise to match the market – you can also invest in actively managed funds, that do actually attempt to beat the market.

You can also decide to invest in certain market sectors that you think will outperform the market. For example, if you think that technology will outperform the general market over the next 10 years, you might beat the market by investing a large chunk of your portfolio in that sector.

This debate really comes down to the fact that while robo-advisors are good for a lot of investors, they won’t necessarily work for everyone. Whether or not you should use one will depend on the type of investor that you are, and the goals you set for yourself.

Summary

If you’re a do-it-yourself kind of person who has a little bit of investment knowledge, using a robo-advisor might not be the best idea. On the other hand, if you just want to invest a little money and sit back and wait, that’s when a robo-advisor is best.

Read more

• Are Robo-Advisors Worth It? 
• Robo-Advisors Vs. Financial Advisors: Which Is For You?