Algorithm-based investing: looking to computers for financial advice

Looking to invest in the stock market but not sure how or what to invest in or who to get advice from? You’re not alone. A recent national financial survey found that 62% of potential investors were scared to put their money in the market. 

Traditionally, neophytes to the world of investing first look to retain the services of professional money managers and financial advisers before attempting to manage it themselves. And depending on your level of assitance and affordibility, services - and more importantly, minimum investment requirements - can range broadly, leaving many to abandon the idea altogether. 

Looking to capitalize on this under-served segment of the population seeking a more inexpensive and transparent system, a growing number of online financial start-ups have launched, sidestepping the human element.

Analysts say that removing the human being altogether from financial advising is one of the fastest growing sectors – there are more than 130 in existence and the list keeps growing. These companies can range from sites that help balance your budget to online services that offer investment fund customization.

These alternatives seem to be gaining traction for those who don’t know the first thing about investing. 

Jehanzeb Sherwani, 39, counts himself as tech-savvy, with a few start-ups under his belt already, “I know that you know you shouldn't keep your money in a savings account, that’s the one thing that I do know.” 

Until recently, he kept his life savings with a financial adviser at his bank. Those advisers typically charge 1-2% in annual fees. But Jehanzeb transferred his money to FutureAdvisor – one of nearly a dozen online options offering financial advice for low or no fees.

Here’s how it works: once you sign up and answer some basic questions like your age, target retirement age, and the level of risk you’re comfortable taking, you then link your existing savings accounts - including 401(k)s and IRA’s - and in minutes, the algorithm-based software will deliver a customized plan to optimize returns and help you reach your retirement goals.

Corporate Insight’s Grant Easterbrook explains that these algorithm-based services rely on aggregating user investment accounts. They use the aggregated information to offer specific recommendations for each clients’ holdings and focus on giving advice on funds, not stock tips. 

Easterbrook does warn about the drawbacks of algorithm-based advice, “Unfortunately most algorithm-based advice services do not collect a significant amount of information from users about their financial situation and goals.”

But Mike Sha, the co-founder of Sigfig, says cost-saving benefits outweigh possible risk. SigFig currently has over $100 Billion in assets linked to the site.

“For the average user, we can save over $5000 for them by identifying the various fees and mistakes that they’re making. And for the average user the actual median assets on the platform is a little bit over $50,000 so that you know comes out to a pretty big chunk of change for them.”

Simon Roy, the President of online advisory firm Jemstep, credits the wake of 2008 financial crisis for the shift in automated investing. “The industry has done itself no favors. There have been scandals, there’s concern about conflict of interest from brokers, the firms that are putting incentives do not necessarily serve their clients. I think investors have become aware of this and there's a hunger for an alternative and for a little more control.”

Jemstep offers a full service free to those 60% of Americans with less than $25,000 saved for retirement. Roy said even clients with millions in assets seek out Jemstep for the transparency of its services.

Elliot Weissbluth, CEO of Hightower Advisors claims the complexities of planning for a financial future require more than the click of a mouse, “the skill that it is resides in a small group of financial advisers and I don't think the technologies today will will sufficiently replicate having a thoughtful human being discharge that kind of a service.”

Experts agree that higher-net worth individuals will continue to rely on investment adviser firms like Weissbluth’s. But for consumers like Jehanzeb Sherwani, saving thousands of dollars in fees is worth more to their financial future than a need for the human touch. “I think it's just a matter of there’s now a service provider or service providers that people like me need. They didn't exist before, so it's just like everyone benefits.”