Robo advisors' free ride is coming to an end.
Over the course of the last ten years, pure play robo-advice platforms built a profitable market offering low-cost, one size fits all investment solutions that can be delivered without any of the operating and legacy costs that traditional firms have always faced.
The success of these platforms is partially attributable to the fact that the technology undergirding robos has advanced to a point where it can optimally—and profitably—cater to the average retail investor. Really, however, most of the blossoming of robos is simply a natural consequence most broker-dealers and many hybrid registered investment adviser (RIA) firms totally focusing on managing the potential existential threat of the DOL Rule, until recently. Neither broker-dealers nor most hybrid RIAs have had the resources or bandwidth to fully develop their own digital advice solutions in the midst of the DOL maelstrom.
Until recently, the majority of traditional broker-dealers could hardly contemplate what their business models would like in a few years, much less invest in entirely new technology platforms. That landscape, combined with a long, multi-year boom in equity markets and exceptionally low interest rates, created the perfect conditions for pureplay robos to thrive. But the window of opportunity for those upstarts is now closing in the new Reg BI landscape.
Reg BI, aside from bringing much-needed harmonization to regulatory oversight between the RIA and IBD spaces, is set to upend all the long-term strategic and operating assumptions that the industry had taken as given, as follows:
- We are destined for an ever-harsher regulatory environment that prevents our ability to reinvest in new platforms. The first such assumption that is being challenged is that the regulatory landscape will inevitably continue to become much more complex, while continuing to tilt heavily towards penalizing firms and advisors. Under Reg BI, traditional firms in the financial advice space will no longer have to pour as much in way of resources and attention towards anticipation of a much harsher regulatory environment. As these firms re-allocate resources into their own digital advice solutions, all the shortcomings of pureplay robos will only be magnified.
- Investors prioritize cost savings driven by automated solutions over personalized service delivered by real people. As the resilience of traditional financial advice firms in the face of regulatory pressure and technology change underscores, the majority of retail investors—including many of the younger segments—would prefer to have some meaningful and regular access to an actual professional who can help guide them in their financial journey as part of the financial advice experience.
- Younger investors who are more comfortable with technology will naturally stick with pure play robo platforms, especially if that is all they have ever known by way of financial advice. As most traditional firms can attest, the decision process between robo advisor and a real advisor is not so much about comfort with technology and past patterns of behavior, as it is about the level of life complexity that each retail investor is facing. As Millennials and younger segments of Gen X get married, start families, care for aging parents and move through any number of other major life inflection points, they will seek out an actual professional’s help and guidance. There simply is no replacement for human contact within this context.
More broadly speaking, robo advisors hitting their high water mark in terms of competitiveness and growth fits within established industry patterns that we have all seen previously. The introduction of cheap index funds and ETFs a few decades ago, for example, caused no shortage of pessimism from the usual pundits about how this was the beginning of the end for the financial advisor profession. In fact, it strengthened the financial advice profession because firms and advisors were able to take these low-cost innovations and integrate them within a broader toolkit for their clients.
We’re already seeing a similar trend move into high gear, with large firms building their own white-label digital solutions. We should expect to see more traditional firms across the size spectrum following suit in the near future, and doing so aggressively.
And, let’s not forget that the broader economic environment is beginning to shift. There is heightened volatility from changes in trade policy, an unpredictable interest rate environment and an increasing likelihood that a recession is coming. When you tally up those factors, one size fits all investment solutions that are highly susceptible to sudden market shocks and black-swan events become less appealing.
Here’s the bottom line: Congratulations to the robo-advisor platforms, who had their time in the sun while traditional firms and their advisors were preoccupied with preparing for the DOL Rule. That era has ended. Look for a similar end to the robo-advice industry as we know it today.
Jeff Nash is Founder and CEO of BridgeMark Strategies, a leading strategic consultancy and advisor transitions firm for the independent wealth management space.