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Robo Advisors Won’t Die As Fast As High Fee Human Advisors

Michael Kitces has a very good post up discussing some of the big trends in the Robo Advisor space. Michael notes that the robo growth is falling off fast and that this could be a sign that the trend here is beginning to dry up. He ultimately concludes that the biggest winners here are the companies augmenting human advisory services with the benefits of the robo technology: “advisor platforms are quickly seeking to build or acquire it to provide it to them, and the tech-augmented humans are increasingly pulling ahead of both their robo and human counterparts.” I think this is pretty much dead on. When I wrote my original piece on the Robo Advisors I said that the endgame here was clearly some combination of human advisors and technology.¹ After all, a robo “advisor” isn’t really an advisor at all. It can’t risk profile you correctly, it can’t know your intricate financial details, it won’t help you stick with a plan when it looks like the world is falling apart, it can’t provide the appropriate financial planning needs, etc. As I’ve stated before, these services are just Robo Allocators. And if you ask me, they aren’t doing anything all that sophisticated so the value proposition is limited from the start. Let me explain why I believe this realization is driving the slowdown in growth we’ve seen. 1 – Robos Build Fancy Looking and Expensive Versions of the Vanguard Three Fund Portfolio. One of the points I highlighted last year was the fact that the Robo portfolios all mimic some version of the Vanguard Three Fund Portfolio . That is, they take 6-20 positions and build something that almost perfectly resembles the specific allocation of the much cheaper Vanguard portfolio. The result is that you’re adding the management fees of the Robo on top of the expense ratios of the underlying funds, resulting in a high fee version of something very simple: (WealthFront Moderate Profile vs. Vanguard 3 Fund Portfolio) (Betterment Moderate Profile vs. Vanguard 3 Fund Portfolio)¹ As you can see, the performance is nearly identical. And if you can rebalance once a year and harvest some losses on your own it becomes difficult justifying a management fee for this. This is ultimately the biggest impediment to Robo Advisor growth. As more people use these services they’re realizing that what they’re getting is little more than a really simple passive portfolio that they can easily build on their own without the Robo middleman. There are some side benefits like tax loss harvesting and the automation of the rebalancing/reinvestment, but it’s not going to be worth it for anyone who has the time to look at their portfolio a few times a year (which is everyone). 2 – The Stock Market Scare Exposed the Same Old Flaws in Traditional Portfolio Theory. The Robo advisors all pride themselves on using “Nobel Prize winning” approaches to investing. But this approach has also exposed the same old flaws we saw during the financial crisis – most portfolios constructed using Modern Portfolio Theory will have highly correlated equity heavy allocations. Even more “balanced portfolios” constructed using Modern Portfolio Theory are not really very “Balanced” at all from the perspective of drawdown risk. One of the key points I highlight in my new paper on portfolio construction is the need for balanced risk in a portfolio. And when you measure risk by the academic notion of volatility, you tend to arrive at portfolios that are always equity heavy which is the case with the Robos. This creates a temporal conundrum and behavioral problem for most asset allocators – are you willing to go through potential periods of substantial unrealized losses in exchange for the potential that you will make it all back “in the long-run”? The cause of this is the fact that stock heavy portfolios are always overweight purchasing power protection (reaching for gains) at the expense of permanent loss protection (protecting against downside exposure). This is because bear markets will expose a traditionally “balanced” portfolio like a 50/50 stock/bond portfolio to excessive permanent loss risk since 85%+ of the downside comes from the stock component. That is, even a 50/50 stock/bond portfolio is not balanced at all as the majority of the negative volatility comes from the 50% stock piece. The two portfolios mentioned above are the moderate profile portfolios for two of the dominant Robo firms and these portfolios will undergo 40%+ declines in a bear market like the 2008 crisis. (Betterment Moderate Portfolio Drawdowns) These are extraordinary drawdowns for a moderate risk profile. To put this in context, a moderate Robo portfolio is designed in such a way that it will take on almost 85% of the downside risk of the S&P 500 during bear markets. That’s quite the rollercoaster ride for most people and not the level of certainty they want from their savings. I’ve referred to this as a major flaw in Modern Portfolio Theory, but I suspect that the deficient risk profiling process in the Robos is compounding the problem by placing the vast majority of their clients in portfolios that are exposed to substantial negative volatility. The cause of this is simple – they’re trying to be fiduciaries who serve the best interests of their clients when the reality is that they are asking 4-5 insufficient questions in the process of risk profiling and then placing you in a very general allocation that could be wildly incorrect because they don’t actually know their clients. The result in many cases is an overly aggressive and insufficiently customized portfolio. I suspect that these are the two primary drivers of the slowdown in Robo growth. But despite the flaws in these approaches, I have to disagree with Michael to some degree. I don’t think the recent weakness in asset flows are the death of the Robos. I suspect something bigger is happening and these firms are merely pushing the human advisory space in its logical direction – towards a much lower fee platform. After all, while I am here criticizing a portfolio that costs 0.28%-0.38% (Betterment’s and Wealthfront’s all-in costs on portfolios over $100K) I would be remiss if I didn’t also clarify that I think it’s absurd that most advisors still charge 1% for constructing something that is usually the same. So no, this isn’t the end of the line for the Robos. In fact, it’s all just the beginning of a long-term decline in human advisory fees. And the combination of these new technologies with lower human advisory fees will create a nice blend of real advisory services with low-cost investing. But we’re not there yet. Human advisory fees have a long way to fall and I suspect that the human advisory space will contract substantially more (in relative size to the Robo space) before all is said and done. ¹ – See, Should You Use an Automated Investment Service? ² – In order to perform these longer backtests I used the JPM GBI for the global bond piece that Betterment uses.

Shiller Was Warned Not To Tell The Truth About The Stock Market – And We All Heard The Message

By Rob Bennett Robert Shiller says in his book Irrational Exuberance that: “On several occasions I have discovered firsthand the pressure on public prognosticators to deliver positive statements about the market. Once, just before going on national television, the anchor looked me squarely in the eye and told me that what I said could conceivably have an impact on the market, and that people can get upset if they perceive prognosticators as disrupting the market.” I’d like to know what Buy-and-Holders think of that statement. Buy-and-Hold is rooted in the belief that it is economic developments, not investor emotion, that determine stock prices. If that were so, nothing that Shiller said could affect the market. Do Buy-and-Holders think that the television anchor’s worries were foolish ones? I don’t think they were foolish so much as dangerous. What Shiller or anyone else says certainly can affect market prices. Buy-and-Holders agree even though they follow a strategy rooted in a belief that only economic developments matter. I know because it is Buy-and-Holders who have insisted that I be banned at the 20 investing sites at which I have gotten the boot. If what I said didn’t matter, why would the Buy-and-Holders want to see me banned? The Buy-and-Holders haven’t convinced even themselves that only economic developments matter. We all filter out information that disturbs us because it threatens our confidence in our world view. Conservatives filter out information advanced by liberals and liberals filter out information advanced by conservatives and it has ever been so. It’s a universal phenomenon. What possible reason could there be for believing that it doesn’t work that way with stocks? A man hears what he wants to hear and disregards the rest. I filter out information casting doubt on the merit of the Valuation-Informed Indexing strategy. I am not aware of doing so, and I understand that it’s a bad idea to do so. I need to know the drawbacks more than anyone else does. It is foolish for me to tune out the words of my critics. But it’s hard to imagine that I do not often do so. Humans always tune out stuff they don’t want to hear. Is that not so? And it always hurts us. That’s also so. That’s why I see such a huge opportunity in Shiller’s research. If we were to begin taking Shiller’s research seriously, we could overcome the force that has made stock investing risky since the beginning of time. That force is self-deception. Do away with self-deception and you change the game in a fundamental way. Many people think it can’t be done. Since we always have engaged in self-deception re stocks, they think we always will. I am more hopeful because Shiller’s P/E10 metric quantifies the effect of self-deception. Now that we can tell people the dollar-and-cents price of following Buy-and-Hold strategies, we can persuade them to ditch the self-deception. People like to make money. We now have the tool we need to motivate investors to demand that Shiller and lots of others tell them the straight story. Even Shiller does not tell the straight story today. It is not my intent to be critical with that statement but to point out how deep the problem goes. Shiller’s next words in the passage that I quoted above are: “He was right, of course, to give me such advice, and I shudder to think that I (or anyone else) could ever help cause a market event that would cost some people their fortunes.” Huh? The television anchor invited an expert onto his television show and then discouraged that expert from sharing his true beliefs with his listeners. How could that possibly be the right thing to do? The television anchor should be ashamed of himself. Shiller should be proud of himself for sharing this revealing anecdote and also a little ashamed as well for soft-peddling the danger of the practice (which is widespread) described. Everyone does what the television anchor did. The newspapers celebrate price jumps even though all they do is raise the price of stocks, a good that all of us who hope to be able to retire someday must buy. Investment advisors brag about the good advice they gave when prices rise even though all price increases greater than those justified by the economic realities (that is, all price increases greater than the 6.5 percent real price increase that has been the price increase that has applied in the U.S. market for as far back as we have records) are temporary cotton-candy gains fated to be blown away in the wind as time passes. Retirement calculators assume 6.5 percent gains on a going-forward basis even when prices are insanely inflated and it is obviously unrealistic to expect such gains. Everyone lies in the stock investing field. Because everyone demands lies. Those who don’t lie are silenced. Those who don’t lie make the ones who do lie look bad. A bull market cannot survive truth-telling. And we all like those pretend cotton-candy gains. For obvious reasons. Two paragraphs down from the passage cited above, Shiller tells a different anecdote: “One investment manager for a pension plan spoke to me about how difficult it was for him to suggest in his public statements that people should perhaps be concerned about overpricing of the stock market. Despite his considerable reputation and apparent sympathy with the views expressed in my book, he seemed to be saying that it was not within his authority to make bold and unprovable statements contrary to conventional wisdom. He seemed to view his charge as interpreting received doctrine and that it would be considered a dereliction of duty to voice contrary opinions that came only from his own judgment.” We expect doctors to express their own judgment. That’s why they get paid the big bucks. It’s the same with baseball umpires. And with accountants. And with lawyers. And with engineers. And with every other kind of professional. The person giving investing advice is the only exception to the otherwise universal rule. Because of what the television anchor said to Shiller. Question Pretend Gains and they might disappear. No one wants that. And so the Pretend Gains grow bigger and bigger and bigger until the cost associated with their disappearance (which is ultimately inevitable) becomes so large that it causes an economic crisis. It’s a problem. Disclosure : None

NIRP Crash Indicator’s Sell Signals Very Reliable For April 2016

The NIRP Crash Indicator’s signals were very reliable during April 2016. April was the first month in which the signal fluctuated since it became operational on March 1, 2016. In the ensuing days after the reading was elevated to a pre-crash or crash imminent Orange warning from its Yellow cautionary readings on April 1 and April 28, 2016, the volatility of the markets was immediate. In both instances, the S&P 500 experienced declines of 1.2% or greater in four days or less after the Orange signals went off. Since the NIRP Crash Indicator is still reading Orange, meaning that a crash could be imminent and market volatility has not yet abated, the probability of a sudden crash occurring remains high. The NIRP Crash Indicator was developed from research conducted on the Crash of 2008, which revealed the metrics that could have been used to predict the Crash of 2008 and its V-shaped reversal off of the March 2009 bottom. See my Seeking Alpha “Japan’s NIRP Increases Probability of Global Market Crash” March 4, 2016 report. The metrics are now powering the indicator. Information about the NIRP Crash Indicator and the daily updating of its four signals ( Red: Full-Crash; Orange: Pre-Crash; Yellow: Caution; Green: All-Clear) is available at www.dynastywealth.com . Throughout the entire month of March, the signal for the NIRP Crash Indicator had remained at the cautionary Yellow and the S&P 500 experienced little volatility as compared to the extremely volatile first two months of 2016. For the month of March, the S&P 500 increased by 4%. The indicator’s reading went from Yellow to Orange after the market’s close on Friday April 1, 2016 . For the following week ended April 8, 2016, the S&P 500 experienced its most volatility since February of 2016 and closed down 1.5% for the week. The signal’s second Orange reading occurred before the market’s April 28, 2016 open. From the Thursday, April 28 open to the Friday, April 29 close, the S&P 500 declined by 1.2%. The S&P 500 (NYSEARCA: SPY ) and the Dow 30 (NYSEARCA: DIA ) ETFs closing at their lowest prices since April 12, 2016 on April 29. The primary metric that I discovered that now powers the NIRP Crash Indicator are sudden increases in volatility for the exchange rates of the yen versus the dollar and other currencies. The significant changes in the yen-dollar exchange rate accurately predicted the crash of 2008, and the recent declines of the markets to multi-year lows in August of 2015 and February 2016. In my April 11, 2016 ” Yen Volatility Is Leading Indicator For Market Sell-Offs ” SA post and my video interview below entitled “Yen Volatility Causes Market Crashes”, I provide further details on the phenomenon of the yen being a leading indicator of market crashes. The only logical conclusion I could come up with for yen volatility or significant appreciation versus the dollar being a leading indicator of crashes is because the Japanese yen and the U.S. dollar are the world’s two largest single country reserve currencies. For this reason, the yen is the best default safe-haven currency utilized by investors during any U.S. and global economic and market crises. When crises unfold, historically the U.S. dollar — by far the world’s most liquid and largest safe-haven currency — is susceptible to dramatic declines until the storm has passed. Savvy investors know that the U.S. is, unquestionably, considered the world’s leading economy and markets. They know that upon a crash of the U.S. stock market, the initial knee-jerk reaction would be a simultaneous crash of the U.S. dollar versus the world’s second leading single-nation currency. The yen is currently the default-hedge currency. Even though the euro, arguably, ranks with the U.S. dollar as the world’s top reserve currency, it is not the preferred hedge against the greenback. The euro is shared by 19 of the European Union’s member countries that have wide-ranging social and economic policies, and political persuasions. For this reason, and also because Japan is considered to be one of the most fiscally conservative countries on the planet, the default currency is the yen. The U.S. dollar does not experience extended crashes versus the Swiss franc and the British pound during times of crises because each of the underlying countries has economies much smaller than Japan’s. From my ongoing research coverage of the spreading negative rates and the devastating effect that they could potentially have on the global banking system, the probability is high that the major global stock indices including the S&P 500 will begin a significant decline by 2018 at the latest. My April 11, 2016 article entitled, “Negative Rates Could Send S&P 500 to 925 If Not Eliminated” , provides details about the potential mark down of the S&P 500 likely being in stages. I highly recommend you also watch my 9 minute, 34 second video interview with SCN’s Jane King entitled “Why Negative Rates could send the S&P 500 to 925”. In the video ,I explain the math behind why the S&P 500’s declining to below 1000 may be the only remedy to eliminate the negative rates. The video also reveals some of my additional findings on the crash of 2008. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.