Algorithms will still require human intervention and advice toensure that advisory firms are fulfilling their fiduciary role.(Photo: Shutterstock)

Who are and what are robo-advisors? They are not robots (at leastnot at this time). A simple definition of a robo-advisor is that of anonline service which provides automated investment portfolios basedon an investor's risk tolerance level, time horizon and goals.

In many cases, robo-advisors also allow investors access tohuman advisors. The list of robo-advisors with human advisor accessincludes Charles Schwab, Personal Capital, Betterment, Ellevest,Vanguard and TD Ameritrade. It is estimated that automatedinvestment platforms exceeded $200 billion in assets in 2017 andwill continue to grow.

Robo-advisors can offer a wide range of investment choices(including actively managed and niche assets), portfoliooptimization and frequent portfolio rebalancing. However, there area number of potential downsides and caveats with respect torobo-advisors:

Lack of transparency: There is no industrystandard regarding the level of transparency required to bedisclosed by robo-advisors to investors. This may result inallocations to asset classes which are not compatible with aninvestor's investment knowledge or sophistication.

ETF and fund flows: Stock and Bond ETFs, whichare used frequently in robo-advisors' automated portfolios, mayexperience significant inflows and outflows due to automatedrebalancing. These flows in turn may have significant marketimpacts. In the fourth quarter of 2018, heavy demand forshorter-term bond ETFs coincided with the stock market correctionand an increase in long term interest rates.

Too-frequent rebalancing: Robo-advisorsrebalance portfolio asset allocations with varying frequency,including daily, monthly and quarterly. In my November 28, 2017BenefitsPRO blog on portfolio rebalancing, analysis indicated thatannual rebalancing was as, or more, efficient than monthlyrebalancing. While no one method is most effective in all markets,too frequent rebalancing may result in excess turnover, highertrading costs and capital gains liability for taxable accounts.

Lack of experience in down markets: From2009-2017 as robo advisory platforms developed, equity marketsproduced positive returns in a bull market cycle. That changed in2018, when the fourth quarter selloff produced negative returns forthe S&P 500 Index and the Russell 2000 small cap index.Will  robo-advisors be able to navigate the extremevolatility of bear markets? Or, will allocations be too aggressiveand disappoint investors?

In summary, it seems certain that robo-advisors are here to stayand will continue to grow. However, their algorithms will alsorequire human intervention and advice to ensure thatadvisory firms are fulfilling their fiduciary role.

NOTE: Information presented herein is for discussion andillustrative purposes only and is not a recommendation or an offeror solicitation to buy or sell any securities or invest with anyrobo advisory firms. Past performance is not a guarantee of futureinvestment results.

Fred Slade has over 25 years of experience inthe investment management and retirement services industries. He isSenior Director, Investments for Pentegra RetirementServices, a leading provider of retirement services tofinancial institutions and organizations nationwide, founded by theFederal Home Loan Bank System in 1943. Mr. Slade manages over $1billion in internal bond portfolios and provides analytics andstrategy for Pentegra's Defined Benefit and Defined ContributionPlans. Mr. Slade holds a Ph.D. in Economics from University ofPennsylvania and a CFA, and has presented at a number of seminarsand conferences.

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