Reviewing Robo-Advisers: Beyond The Fluff

Frankly, I could care less how much money Wealthfront, Betterment, et. al. have raised from venture capitalists, how pretty their web sites are, how close to zero their fees are or how much money their publicists have been able to persuade investors to fork over. It’s time to, instead, to start looking at the one thing that counts: How effective they are managing their client’s money.

The Questions You’re Not Supposed To Ask

Robos and it would seem most of have been writing about them, have been acting as if there’s no need for you to be wondering about portfolio performance. The spin maintains that robos invest passively. You’re supposed to swallow the notion that the market is all powerful and that the only thing robos – or anybody else – can do to help you is to get you into positions that are consistent with your reward-risk tolerances.

I have a word for that: It’s . . . aw heck, I can’t say it lest I incur the wrath of the folks at Forbes and I don’t want to do that since they’re good people. So I’ll borrow a pair of phrases used by Supreme Court Justice Anton Scalia in his dissent to the majority decision in last year’s big Obamacare cases; “jiggery pokery, pure applesauce.”

Supposedly, it’s pointless to try to beat the market, so just buy the whole market.

Problem: How do you define the market and how do invest in it?

Is the equity market the S&P 500? That would be easy. We know how to invest in that.

Or is the S&P 500 too narrow with its large-cap focus? Do we need to include smaller issues?

Should we limit ourselves to the U.S. or must we include securities from elsewhere?

Should non-U.S. positions be hedged against adverse movements in other currencies? Is this a violation of passive nirvana? Or maybe failure to hedge is what’s really active. Since U.S. clients will have to spend dollars for college tuition, retirement, etc., wouldn’t the most passive approach be to have all of their investments denominated in dollars?

What percent of the market can we even access through publicly traded securities? That’s a pressing question everywhere in the world? God’s portfolio includes publicly traded companies, privately owned businesses, underground economies, collectibles, etc. Ditto, possibly, some hedge funds. Are we cheating if we limit ourselves to the public markets?

How do we deal with the fixed-income market? The simplicity-obsessed robos say ETFs, but what about the time bombs these never maturing securities represent in times of rising rates. This has nothing to do with active versus passive because one could just as easily buy maturing fixed-income instruments, except that robos can’t because that would require more complexity than they have so far been willing to handle.

Stereotypical notions of buying the market include commodities. How do we buy those? Obviously through ETFs, but do we market weight all commodities or pick and choose? And are ETFs, the robe-friendly convenient solution, effective at addressing backwardation and contango, oddities that are important in the futures market, or should they buy equities of commodity producers, or would that be a non-passive overweighting of within the equity exposure in general?

What about real estate? There’s a lot of valuable stuff in this asset class that isn’t held through ETFs.

Is your head starting to spin?