|02 April, 2019

Robo-advisory firms: Should you let your investment decisions be automated?

Main audience for robo-advisors is younger investors and ‘mass affluent’ investors who don’t qualify for wealth management services from banks

Various currency notes from Saudi, UAE, Kuwait and Oman. Image for illustrative purpose.

Various currency notes from Saudi, UAE, Kuwait and Oman. Image for illustrative purpose.

Born in the aftermath of the 2008 financial crisis in the US, robo-advisors are a low-cost investment option that give investors exposure to a portfolio of exchange-traded funds (ETFs) matched to their risk profile. Independent robo-advisors offering services in the GCC include Sarwa and Wahed Invest, where annual fees range from around 0.5percent-1 percent, depending on the account balance.

The main audience for robo-advisors is younger investors and ‘mass affluent’ investors who don’t qualify for wealth management services from banks. And though the scene is relatively nascent, robo-advisors believe they have plenty to offer investors, as well as serving up some competition for traditional players.

“Our goal is to democratise investing and change this perception here in the region that it's something that is only available to the 1 percent, a luxurious product, when it should be available to everyone, which is how it is in most parts of the world,” Danny Jabbour, head of wealth advisory at Dubai-based Sarwa, says.

Meanwhile, traditional brokers and banks in the region are also beginning to partner with software companies such as Kuwait-based Neo Technologies and Singapore-based WeInvest, meaning there could be a flood of new entrants into the market. Kuwait’s NBK Capital also recently launched a robo-advisor platform called SmartWealth, though accounts are only available for Kuwait residents, the company’s website says.

 What are robo-advisors?

As the name suggests, robo-advisors make use of automation to screen investors and allocate portfolios for them.

When signing up, an investor will be greeted with a series of questions designed to gauge their risk profile. They will then be matched with a specific portfolio, typically compromising a number of exchange traded funds (ETFs).

Following the quiz, if they’re not happy with the portfolio allocation – an investor may want to take on more risk or have greater security – they can manually select another portfolio. These portfolios are created by the individual investment firms, and higher-risk portfolios will have a higher allocation to equities, while more conservative portfolios will have a greater exposure to fixed income; ultra-conservative portfolios may also hold gold and cash.

Against the global backdrop of a shift by many investors toward low-cost, passive index funds – which track markets without accruing higher active management fees – robo-advisors essentially offer a layer of service and convenience between passive funds and investors.

While UAE investors could choose to buy ETFs directly from a brokerage, that process is “not straightforward – you would have to have someone to show you what to do”, Steve Cronin, founder of the DeadSimpleSaving.Com website, says.

As well as providing an alternative to the long-term savings plans promoted by financial advisors in the Middle East, “Robo-advisors provide a much easier entry into the world of passive stock investing,” Cronin says.

It can also be outright cheaper: Sarwa covers the brokerage platform costs, which makes investing with them cheaper for smaller account balances than investing directly with a brokerage. An investor at Sarwa with a $10,000 balance will pay around $7 per month, Jabbour argues.

Also, despite the ‘robo’ moniker, the fact that these platforms are still building a presence in the region mean that many also offer the ability for investors to talk to an advisor.

“People don't always like to just deal with tech, they like to know that there is a human on the other end of the phone, or on the other side of the screen,” Jabbour says.

The fee degrees

The difference in fee terms between using a robo-advisor and traditional investment options may only be small, but over a 40-year investing lifespan, shaving 0.5 percent off fees can add hundreds of thousands of dollars to a retirement nest egg.

When selecting a firm, investors should look for those offering wrap fees, meaning that they don’t charge extra for services such as portfolio rebalancing.

Robo-advisors normally have different fee tiers, with lower fees for customers with higher account balances. Sarwa, for instance, has fees of 0.85 percent for customers with an investment balance under $50,000, 0.7 percent for customers with a balance greater than $50,000, and 0.5 percent for customers with a balance above $100,000. There is also an ETF fee on top, which averages 0.07 percent, and is paid directly to Vanguard or Blackrock, the ETF providers.

Meanwhile, its fees are charged at the end of each month, based on the average account value for the month–creating a better deal for investors than some funds that charge the full annual management fee upfront, which hurts a client's opportunity cost, Jabbour argues.

Wahed Invest, which is based in New York and was founded in 2015, has wrap fees of 0.99 percent for UAE-based customers with a balance below $250,000, and 0.49 percent for customers with a balance above that amount, Junaid Wahedna, CEO at Wahed Invest, says.

A key point of difference for Wahed Invest is that the company provides shariah-compliant investment.

“We want to give people a place where they can keep their money, and where they’re sure it's not being lent out, and it doesn't touch interest or usury, which is forbidden in our faith,” Wahedna says. 

In practice, that means Wahed Invest must own physical ETFs or even individual stocks, rather than owning commonly-used synthetic ETFs.

Being shariah-compliant has forced the company to take a different route and invest more in its processes, such as developing a proprietary technology in order to be able to trade sukuk, said Wahedna.

One benefit of having its own tech is that the company can fractionalise and accept a minimum investment of just $100, whereas for many robo-advisors, the minimum balance is several thousand dollars, said Wahedna.

Most robo-advisors have to regularly rebalance portfolios, as fluctuations cause the size of the various components to deviate away from original allocations. This is a useful service for investors, but check that it’s included in the account fee and isn’t an additional cost –something which is often the case with traditional wealth managers.   

“No matter what we do, or how many times we do it, the client pays the same. There’s no incentive for us to want to churn the account or do anything unethical,” explained Jabbour.

A taxing issue

While UAE residents may not pay any income tax, their investment funds can still face tax in the country where the funds are domiciled. Significantly, funds domiciled in the US are liable to a hefty estate tax on accounts worth above $60,000 in the case of an investor’s death.

For this reason, many ETFs are domiciled in the EU, especially Ireland. Investors will also have to pay withholding tax on profits. In the US this amount is 30 percent, whereas in Ireland it’s 15 percent. Nevertheless, on accounts lower than $60,000, there are still some price benefits for being US-based, Jabbour says.

 With robo-advisors offering a useful investment service, especially for those new to the world of investing, having a dedicated saving plan and closely tracking your expenses and spending will make all the difference.

“There’s plenty of people in the UAE who are starting to make a good salary and starting to save, and have no idea how to invest their money, and so robo-advisors are a great entry point for those people, and can teach them all about how to invest.

“If, after a year or two, they decide they don’t want to pay those fees and they want to do it themselves, then hopefully they will have learnt almost enough to get started,” says Cronin.

(Reporting by Stian Overdahl; Editing by Michael Fahy)

(michael.fahy@refinitiv.com)

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© ZAWYA 2019