Last October, Wealthfront raised $64M at a valuation of $700M. Were Wealthfront a brick-and-mortar adviser, it might command a typical valuation multiple of 2-3X revenue. Since Wealthfront manages about $1.7B at last public count, on which it charges up to .25%, it should have revenues of around $4M. That makes it worth, say, $10M? OK, let’s say $20M, or even $50M! But $700M?
Wealthfront is a robo-adviser, and robots are different, or so we hear. These online platforms, which raised almost $300M in 2014 alone, offer automated, algorithmic, model-based portfolio allocation, trade execution, and rebalancing for individual accounts. Robo-advisers (of which Betterment, FutureAdvisor, and Motif Investing are among the other big names) have much smaller or zero minimum balances, and charge much lower fees (in the range of .10-.40%), than traditional independent advisers. They promise to offer clean, intuitive interfaces to help everyday investors save and invest in a risk-appropriate and even tax-sensitive way, at a fraction of the cost of a traditional alternative. They arguably increase investor access to discretionary wealth management, and work to expand consumer choice. And by pressuring the competition to up their game on service, fees, and risk-adjusted performance, robo-advising might add real value across the asset size and investor sophistication spectra.
So is it flawed and anachronistic to even suggest a valuation comparison between a hot robo-adviser and its dinosaur counterpart? Clearly, any proper assessment of an investment advisory practice would incorporate not just current asset size, but current and future rates of asset growth, client retention and loyalty, net margin per client and trends in these margins, and differentiation by service, fees, investment approach, and client type, among other factors. But for robo-advisers, even a shallow dive into these factors raises more questions than it answers. The 70X valuation gap is clearly simplistic, but should give serious pause to those bullish on robo-advising as a standalone business model, especially at such valuations.
Yes, the major robo-advisers have been growing at double or even triple digits recently, but this is from a relatively miniscule base. Four of the largest robo-advisers manage less than $10B combined, out of a pool of $17T managed by all US advisers. Yes, their fees are low – often a third or a quarter of traditional advisers. And yes, they have small or zero minimum account levels, in theory offering discretionary wealth management services to a much broader population. But that’s as far as the cuckoo flies. Robo-advisers do not typically provide broader financial planning or auxiliary services like tax planning, estate planning, or insurance products. Crucially, when asset levels rise and/or investors age, these services become increasingly central to the adviser-client relationship. And they are silent on the very life events and human concerns that build client loyalty or precipitate the search for an adviser in the first place, such as marriage, divorce, retirement, kids to college, parents to long term care, or estate and legacy issues.
Most importantly, and most obviously, a robo-relationship lacks the human element. And this human absence is not just a question of ‘millennial preference for online advice’; the issue is much more fundamental. Most investors hire advisers to invest their assets – more precisely, to take investment risk – that they are too afraid, too busy, or too inexperienced, to take themselves. In other words, when an investor hires an adviser, they are buying not alpha, but beta; mediated by the adviser-investor relationship of trust and access, they are buying risk-adjusted exposure to the market itself. So this human mediation is not just a ‘perk’ or ‘luxury’ that wealthier investors can afford; it is arguably the core value delivered by traditional advisers. For example, speaking to a human one personally knows and trusts may prevent investors from doing stupid things in scary times, like liquidating their stock portfolios at market troughs (keeping investors invested during gut-wrenching downturns is the very hallmark of a good adviser). Taking gains off the table in frothier times, moving assets in and out of tax-advantaged vehicles based on changing tax brackets and rates, or even disciplining clients into sticking to their savings plan in ‘inconvenient’ times, are less dramatic but equally vital examples of the ongoing value of a trusted human adviser.
If you’re still convinced that robo-advice isn’t just a business tool (albeit a powerful one in the right circumstances), but a game-changing business proposition, note how the industry has reacted to its emergence. On the one hand, sophisticated independent advisers are already launching proprietary or white-label robo-solutions to complement their traditional offerings. These might work either as ‘starter’ or ‘feeder’ programs for younger investors who would later graduate to a comprehensive relationship, or as part of a ‘hybrid’ offering where online interaction complements and supplements in-person meetings. On the other hand, industry behemoths are taking the cue. Schwab is launching an advisory platform, both directly to consumers and as a white-label offering to independent advisers, for free. Fidelity has partnered with Betterment to offer an institutional version of Betterment’s platform to Fidelity’s adviser network. And Vanguard has launched its own robo-platform, which even in its pilot stage dwarfs the competition.
Squeezed between the institutions and the independents, standalone robo-advisers will struggle to scale while maintaining their (thin) margins. How can they compete with institutional brokerages and fund companies on fees, distribution, and branding; or with traditional independent advisers on bespoke, personalized, and comprehensive service?
Robo-advice may be a valuable business tool, but is not a viable business model.
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