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Practice Management

The robo advisor launches a volley across the bow of its competitors, but it remains to be seen if reduced minimums will attract more business from young investors. 

This Practice Management article is intended for financial advisors only (registered representatives of broker/dealers or associated persons of Registered Investment Advisors).
 

By slashing its investment minimums from $5,000 to $500, automated investment manager Wealthfront dramatically claimed it is leading the effort to democratize the wealth-management industry.

But such cuts won’t necessarily translate into a similar dramatic spike in clients, one leading industry analyst says.

"It's not an important competitive development," says Bob Hedges, partner at consulting firm A.T. Kearney. "Success in the space isn't going to be driven by the minimums providers establish. Success will be driven by the quality of the customer experience and how frictionless investing becomes."

Wealthfront said the move was prompted by a surge of young investors who asked for a lower minimum and to pressure other robo advisors to get rid of fees on small accounts. The advisory currently claims $2.5 billion in AUM and 31,000 clients.

"It's still early, but we can change this industry," tweeted Wealthfront CEO Adam Nash.

Hedges, who co-authored a recent report on the development of robo advisory firms including Wealthfront, says a lower barrier to entry isn't the most important aspect of capturing the automated investing market segment.

"The market for these services is enormous and consumer interest is extremely high," he says. "But decision-making is going to be driven by low costs and customer experience."

Price War?
Among the A.T. Kearney's report's predictions: robo advisor growth will erode overall asset management revenue, potentially devolving into a price war between industry incumbents and digital-first firms. The report projects the industry could lose as much as $90 billion in revenues in five years in such a scenario.

"This is not a hypothetical exercise," Hedges says. "This is a classic case study of the 'Innovator's Dilemma.' Are people prepared to reduce margins in order to grow business for long-term benefit?"

Wealthfront says it is still not charging fees for the first $10,000 of an investor’s account. For amounts over $10,000, the company charges a flat 0.25% fee.

Cutting minimums to target a class of emerging investors isn't a new strategy, says Rob Foregger, co-founder and executive vice president of digital advice platform Next Capital.

"It's a play straight out of the pages of discount online brokerages," Foregger says. "Unlike wirehouses, discount brokerages engaged boomers in their early days at a loss.

"It's playing long ball," he adds. "It's an investment in a client relationship over decades rather than immediate economic recognition. The strategy is about growing with that market over time. They clearly are not going to be making money on those accounts."

Foregger says some digital advice firms might feel pressure to follow suit. "It depends on the player and market, and the client preference they have. There are multiple winning models in the industry. Some are end-to-end for the full lifecycle of clients and others are very focused on niches."

Taking Shots
Announcing the lower minimums, Wealthfront’s Nash also took a shot at traditional banks and other robo advisors, such as Blooom and Betterment, for charging what he called exorbitant fees.

“The world doesn’t need another Wall Street,” Nash wrote in a Medium article titled, “It’s Time to Kill the Monthly Fee for Small Accounts.”

Nash first criticized traditional banks such as Citibank for charging $12 a month as a service fee for a basic account. For a young client with $100, this fee is too much, Nash said.

He then compared this to newer fintech companies on the scene who are repeating the sins of the traditional financial companies by charging high “fees disguised as the ‘low monthly service fee’ for small accounts. They might seem low in absolute dollars, but as a percentage of a new investor’s account, it is devastating,” he wrote.

Nash singled out Betterment and pointed out that the company charges $3 a month to clients, who deposit less than $100 a month.

“Since Citibank is an investor in Betterment, it might be inevitable that some of their tricks would seep into Betterment’s service. At $3 per month, an investor opening an account at $100 would be paying an annual management fee of 36% in the first year,” Nash wrote.

Nash also said he was surprised when he heard that one-third of Betterment’s revenue comes from that $3 fee.

“We have to be better than this. Stop charging monthly fees for small investors,” Nash wrote.

Betterment CEO Jon Stein wrote a Medium post in response and disputed every point Nash brought up.

“In a marketing ploy designed to bait us to respond and thereby invite the press to pay attention to them, Wealthfront made knowingly inaccurate statements about Betterment,” Stein wrote.

Both robo advisors have been vying for young investors in the digital wealth management space, which had a reported $16 billion AUM at the end of last year, according to Aite Group.

—Sharon Adarlo 

 

 

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