How Will The Robo-Advised React To Their First Gut Check?
Robo-advisors have been increasing in popularity over the last few years especially among Millennials or Generation Y. This popularity has been caused by several factors but mostly it’s the low fee, high tech, app based platform that's attractive to this cohort.
New rules increasing the transparency of Canada’s enormous investment fees (CRM 2), combined with poor performance of active management has also added fuel to this investing trend. By utilizing exchange traded funds as well as an automated app based platform, robo-advisors have taken fees well below 1% of assets under management.
Today stocks continue to experience a prolonged period of low volatility and trade near all time highs. But at some point, stock markets will correct and we will experience a bear market. Because of the recent slow and steady grind higher even the smallest correction could cause investors to flee from stocks.
How will the robo-advised react to their first 25% or worse, sell off in stocks? I have to assume that most Gen Y were not old enough to have significant money involved in the last bear market. In 2008 North American equities sold off more than 50%.
How will these investors react when they see their account value sliced in half? More importantly how will robo-advisors respond when many of their employees have little to no experience dealing with upset investors in the midst of a bear market?
Will investors be scrambling to find a phone number to speak with someone instead of communicating through the app? Will there be enough customer service people to field the calls and handle upset and panicked investors? I'm assuming that robo-advisors don't have a “sell everything button” or “close my account now button”, but I'm certain some customers will be calling in to do just that.
Any significant plunge in stock markets must be gutted out by the index based investor in order to allow the long-term benefits to play out. I know from experience having invested and traded through the internet bubble and the financial crisis that this is much easier said than done. Will the robo-advised or index investor be able to stay the course and stick with their portfolio of exchange traded funds?
When markets finally experience a 25% or worse correction we'll find out if robo-advisors have true staying power. Maybe after such an event, active management and one-on-one financial advice will find its place among the younger generation of investors.