Robo-advisers explained
An algorithm will build you a portfolio in minutes. It can only work with what you tell it, and the total cost is not always the fee on the front page.
On this page
- A robo-adviser (also spelled robo-advisor) is an automated digital investment advisory program used through a website or app with limited human contact.
- It builds a portfolio from your answers to an online questionnaire, often using exchange-traded funds, and manages it over time.
- The SEC tells investors to add up all costs, including the funds' own fees, and to read the firm's Form ADV.
- In 2022, three Schwab adviser subsidiaries agreed to pay $187 million over SEC charges about undisclosed costs in a robo-adviser's cash allocation.
- A robo-adviser is regulated as an investment adviser in the US; check it in the SEC's Investment Adviser Public Disclosure database.
A robo-adviser is an online investment service that uses algorithms instead of a person to build and manage your portfolio. You answer questions about your goals, time horizon and risk tolerance; the software picks a mix of funds, often ETFs, and manages it over time. Investments can still lose value.
What is a robo-adviser?
The US Securities and Exchange Commission (SEC) describes robo-advisers as automated digital investment advisory programs. You open an account through a website or app, answer questions online, and the program recommends and manages a portfolio for you, with limited or no contact with a human adviser. Spelling varies: regulators usually write "adviser", many companies write "advisor". The product is the same.
Robo-advisers are a branch of fintech, but they are not outside the normal rules. In February 2017 the SEC's Division of Investment Management issued guidance on how robo-advisers meet their obligations under the Investment Advisers Act of 1940, covering disclosure, suitability of advice and compliance programs. FINRA, which oversees US broker-dealers, published its own report on digital investment advice in March 2016.
How does a robo-adviser build your portfolio?
Questionnaire. According to the SEC, the service collects information such as your goals, investment horizon, income, other assets and tolerance for risk.
Allocation. An algorithm turns your answers into a recommended mix of investments that is meant to fit the profile you described.
Portfolio. The service buys the investments for you, often exchange-traded funds (ETFs).
Ongoing management. The service keeps managing the account automatically on an ongoing basis, rather than handing you a one-off recommendation.
Optional extras. Many offer tax-loss harvesting, which the SEC describes as selling investments that have lost value in your account; ask how it would affect your own tax position.
How does a robo-adviser compare with a human adviser?
| Feature | Robo-adviser | Human adviser |
|---|---|---|
| How advice is formed | Algorithm applied to your questionnaire answers | Conversation and judgment of a professional |
| Human contact | Limited; some "hybrid" services add access to people | Central to the service |
| What it knows about you | Only what the questionnaire asks | Whatever you discuss, if you share it |
| Costs to add up | Advisory fee plus the funds' own fees and any other charges | Advisory fee plus fund fees, commissions or other charges |
| US registration check | Form ADV and IAPD | Form ADV and IAPD |
The SEC notes that some services offer a mix, which it calls "bionic" advice, combining automated tools with access to human professionals.
What does a robo-adviser really cost?
Robo-advisers are often promoted as low-cost, but the SEC reminds investors that the total can still be significant once you add the advisory fee, the expense ratios of the funds held, and any other charges. Ask for every layer.
Costs can also hide in portfolio design. In 2022 the SEC charged three Charles Schwab investment adviser subsidiaries, which agreed to pay $187 million ($52 million in disgorgement and interest plus a $135 million penalty). The SEC said their robo-adviser was marketed as having no advisory or hidden fees, while the cash it held in client portfolios reduced client returns under most market conditions and benefited the firm.
What mistakes do people make with robo-advisers?
- Rushing the questionnaire. The portfolio is only as suitable as your answers. Update them when your income, goals or timeline change, as the SEC advises.
- Comparing only the headline fee. Add fund expenses and any cash drag or other costs.
- Expecting the algorithm to remove risk. A diversified portfolio still rises and falls with markets; read about volatility before you start.
- Skipping the registration check. Look the firm up in the SEC's Investment Adviser Public Disclosure database and read its Form ADV, including conflicts of interest.
- Ignoring conflicts. The SEC suggests asking whether the adviser favors its own or affiliated products in your portfolio.
Questions readers ask
Is a robo-adviser safe?
It is a regulated investment adviser, not a guarantee. Your investments can lose value. Check the firm's registration and Form ADV, and understand where your assets are held.
How much money do I need to start?
It depends on the service. Check the account minimum and every fee before you open an account.
Can a robo-adviser handle my whole financial plan?
Not necessarily. The advice is based on what the questionnaire asks, so debts, other accounts or complex goals may not be reflected unless the service asks about them.
What is the difference between "adviser" and "advisor"?
Only spelling. US regulators such as the SEC write "adviser"; many firms write "advisor".
A robo-adviser automates portfolio building and upkeep based on your questionnaire answers. It can make investing simpler, but it does not remove market risk, and the full cost includes more than the advisory fee. Before signing up, check the firm's registration and Form ADV and answer the questionnaire carefully.
Sources
- US Securities and Exchange Commission (Investor.gov), Investor Bulletin: Robo-Advisers (2017)Primary source
- US Securities and Exchange Commission, SEC Staff Issues Guidance Update and Investor Bulletin on Robo-Advisers (2017-52) (2017)Primary source
- US Securities and Exchange Commission, Press release 2022-104: Schwab subsidiaries robo-adviser charges (2022)Primary source
- FINRA, Report on Digital Investment Advice (2016)Primary source
Educational content only — not financial, investment, legal or tax advice. Crypto-assets are high-risk and you could lose all the money you put in. Rules differ by country; check with your national regulator. See our risk disclosure and editorial policy.
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