Fintech, a.k.a. the booming financial technology industry, has a hot new buzzword: robo-advice.
The first half of last year was all about peer-to-peer lending and the second was dominated by blockchain. Now, robo-advice and robo-advisors, the growing field of online investment and savings platforms, looks to be holding sway.
The exact term is slippery to define because it covers a broad spectrum, but it essentially involves replacing face-to-face savings and investment advice with online, automated guidance and execution. It doesn’t involve actual robots — the closest you get is algorithms — and it can often be much more than just advice, with some online offerings investing your money for you.
Lawrence Wintermeyer, CEO of the UK’s fintech industry body Innovate Finance, told Business Insider: “Often in the US it covers anything from execution only — where you would go on to a platform like Charles Schwab and buy a mutual fund or a stock but you do it by yourself — right up to the discretionary area where as a client you just sign an agreement with a firm who would manage all your assets for you and give you a return rate but you probably don’t have any idea what they’re investing it. That’s why it’s a pretty big space.”
Robo-advice has cropped up in the UK news this week after the Financial Conduct Authority (FCA) published its Financial Advice Market Review (FAMR). It concluded up to 16 million people in the UK could be trapped in a “financial advice gap” — they need advice but can’t afford it.
Wintermeyer says: “Most of the UK is what we would call outside of advice, mainly because IFAs [independent financial advisors] aren’t incentivised and the cost of their hourly fees makes it too prohibitive. The average person generally can’t afford an advisor for his pension now.”
He adds: “IFAs and the processes they go through really were designed for people with a lot of money. It’s not that they’re not important for average people but it’s kind of like a sledgehammer to crack a chestnut.”
One of the solutions, the FCA believes, is more “online automated advice models that have the ability to deliver advice in a more cost-efficient way.”
This is essentially what robo-advice is all about. Fill in an online form stating your circumstances and needs and the algorithm will recommend products for you to invest in — or do it for you, depending on the platforms.
The poster children for the space in the US are Wealthfront, an automated investment platform founded in 2008, and Betterment, an online investment advisor also set up in 2008. Between them they claim to manage around $6.5 billion (£4.5 billion).
Wintermeyer says: “Robo-advice has been probably the third biggest clump of institutional and VC investment in the US. With the exception of Nutmeg and a couple of other players here in the UK, it hasn’t been as big. With the FCA’s renewed focus on this advice space, that’s going to change.”
‘This is the start of a bigger movement’
Robo-advisors are starting to crop up in the UK. Nutmeg, founded in 2011, was an early pioneer of the online investment model here, although it is much less automated than newer startups entering the space.
Newer businesses include Wealth Kernel, which is looking to sell its wealth management platform to financial advisors, and Gear Investments, an online discretionary wealth manager. Italy’s MoneyFarm also recently launched in the UK.
“I really don’t think this is just a fleeting change in the way people are dealing with investments and financial services in general,” says Adam French, co-founder and UK MD of online investment manager Scalable Capital. “I think this is the start of a bigger movement to disintermediate some of the traditional financial services players.”
French and four out of his five co-founders worked in Goldman Sachs’ Capital Markets division before leaving to set up Scalable capital. He told BI: “In late 2014 we were collectively all trying to solve the same problem, which was constantly having to answer the same questions from friends and family regarding where they should put their money. We all came together and said, I just don’t have an answer to that question.”
Scalable Capital raised €4 million in seed funding last year and gained its licence three months ago, launching in the UK and Germany.
At the heart of its model is an investment algorithm that forecasts risks and then will “spit out the optimal portfolio,” says French. “But then there’s a human interaction in the end. You have that nice balance between using the tools that technology allows you to have but still having a human oversight.”
A weird quirk of robo-advice is that startups in the space hate the term. French says: “We prefer the term digital investment manager because we feel that the robo-advice word covers a multitude of business models.”
At the Westminster Business Forum “Future of Fintech in the UK” event in January Jeff Salway, a personal finance journalist who also sits on the Financial Services Consumer Panel, told the crowd: “I hate that term, most of the players in the industry hate that term but it comes from the states and the FCA seem to like it so it’s what we’re stuck with.”
French says: “At the moment, we see the business models ranging significantly. You could probably split the space up into about 10 different business models. What’s great is we’re all recognising a deficiency in the wealth management market.”
“The underlying reason why there’s huge growth in this area is there’s a huge underserved portion of the population who have not had access to these types of services perform. Through technology, we’re able to target specific groups and I think you’ll see different players emerging serving different niches.”
‘We’ve got concerns over automated advice’
But the rise of robo-advisor is not the inexorable march of progress. Selway told the crowd at the Westminster Business Forum event: “We’ve got concerns over automated advice, I think the regulator has too.
“The main one is that it’s not really advice. A lot of automated advice services are based on decision trees and they are really guided invested sales. They’re not financial advice that take into account your objectives and your goals and how your circumstances change over your life.
“You find a lot of people getting shoe-horned into portfolios that aren’t necessarily suitable to them. If you’ve got a website with six or seven portfolios, they have got to find a way into them.”
He added: “Do people know how the information is being used? Do they know how much it will influence the eventual outcome? If you don’t, it might influence how much information you put in and what information you put in and you might get the wrong product for you. It misses what you get from face-to-face.”
But Salway says that if these downsides can be mitigated then there’s a lot of upside to robo-advisors — not just for the 16 million in the financial advice gap but for the existing wealth management industry too.
Salway told the crowd: “A lot of advisors see it as a threat. Actually, they might have the most to gain. It’s a gateway to long-term advice potentially if you think about the younger generation who might be using online services that they find easier to use.”
Wintermeyer agrees, saying: “You find that the pensions industry is talking about solving the problem for 55-year-olds that have been in their scheme for 20 years but they forget that there’s a whole generation of millennials coming up that we really should be designing newer and simpler pensions for.”
Bigger wealth managers and investment companies are already cottoning on to the growth prospects of robo-advisors. Charles Schwab last year launched an automated investment product which it says attracted $1.5 billion (£1 billion) from 23,000 users in its first six weeks of operation.
Wintermeyer says: “If someone can package an application that’s usable by mere mortals and stops using language like passive, active, volatility — any of the meta language you think about around investment management — and just says, hey, this is going to do the job for you — that’s exactly where the opportunity lies for robo-advice.”
French says: “I wonder if in five years time we drop the whole robo piece and we just end up calling it investing.”