In this article, we explore the differences between robo-advisors and traditional advisors, and if it makes sense to use a robo-advisor for your muni portfolio.

Keep our glossary of municipal bond terminologies handy to familiarize with different concepts commonly used by municipal investors.

Robo-advisors are online investment platforms that assist in the management of client portfolios. Robo-advisors use algorithms based on client feedback to recommend and implement changes to their portfolio. Some of the most well-known robo-advisors include Betterment, Schwab Intelligent Portfolios, Wealthfront and FutureAdvisor.

Robo-advisors and traditional advisors are quite different in terms of their business model. The robo-advisor model is based entirely online, while a traditional advisor typically has a local office where you can meet your advisor face-to-face and develop trust before handing over your money.

Just like traditional advisors, robo-advisors begin the relationship with a questionnaire to learn about your financial situation and goals. Robo-advisor questionnaires are completed online, while a traditional advisor tends to do this in a face-to-face interview. The online model of robo-advising is convenient for investors who don’t have time to meet an actual advisor. Robo-advisors offer the same type of accounts traditional managers offer, such as individual taxable accounts, as well as tax-advantaged retirement accounts, such as traditional IRA and Roth IRA.

The rules and algorithms used by muni robo-advisors are not much different than those used by robo-advisors in the equity market. This logic especially helps with the trading aspect of managing the portfolio and responding to market conditions; however, the true value of robo-advisors for muni investors can be derived from the robust analytics they are expected to provide in the future.

Let’s take a closer look at some of the advantages and disadvantages of using a robo-advisor.

Lower Fees – One of the most important advantages is the lower fee structure of the robo-advisor. Management fees for traditional advisors range from 1-3%, while most robo-advisors charge less than 1% and some as low as 0.20%. It is not surprising that over the long term, investment management fees can dent your potential returns.

Lower Minimum Investment Requirement – Traditional advisors tend to set a high minimum investment requirement of $500,000 to $1 million to manage your money. Robo-advisors offer services to investors with assets as low as $5,000.

Convenience – Robo-advisors provide their services entirely online, which saves you time since you won’t have to meet your advisor in person.

Analytics Support – When it comes to fixed-income investing, robo-advisors offer additional analytics on individual bonds, including municipal bonds, and how they fit into the portfolio prior to opening an account. For instance, IncomeClub builds a portfolio of individual bonds and then provides specific feedback on how each bond fits your needs in terms of risk and return.

In the future, robo-advisors are expected to provide even deeper analysis in a variety of ways. Through natural language processing, robo-advisors could read through financial documents such as 10-Ks and do much of the same data analysis that humans would likely avoid. Robo-advisors can also provide cash-flow modeling, option-adjusted spread analysis, probability of default, debt service coverage and other key analytics needed to determine if a potential credit fits the portfolio. As you can see, there are a wide range of ways robo-advisors can add value through analytics in the future.

Be sure to check this article to remain aware of the due diligence process for evaluating municipal bonds.

Reserved for Tech-Savvy Investors – Robo-advisors are still a fairly new concept, so this type of technology caters to younger investors who are comfortable with technology and willing to trust a computer program with their money.

Absence of Human Judgement – There are questions as to how well a computer algorithm can understand human psychology when it comes to trading. When volatility hits the market, investors will want someone with whom to talk to voice their concerns when they see their portfolio going down. Some robo-advisors do not offer human financial advisor services along with their robo advising, and those that do charge additional fees.

The Case With Employer-Sponsored Plans – If you are invested in a retirement plan, such as a 401k or IRA through work, then it’s unlikely the trustee that manages your employer’s 401k plan offers robo-advising services. However, this may change in the future if robo-advising continues to grow.

Low-Value Services – Many of the services currently offered by robo-advisors such as asset allocation or performance reporting are not particularly complicated, which is why they are able to charge such low fees. As robo-advisors become “smarter,” they will be able to provide robo-analyst services to dig through financial statements and add value through investment advice and generating ideas.

As with most new technology, age plays a big role in whether a person is willing to use a robo-advisor. In general, older investors tend to prefer the traditional approach, while younger investors are more likely to adopt this new technology.

For muni investors, one of the benefits a robo-advisor can offer is the development of a portfolio of individual bonds rather than investing in a bond fund such as an ETF. This helps you create a portfolio of bonds that matches your risk tolerance, time horizon, and return needs that buying a bond fund simply does not provide.

Check out the different ways to invest in muni bonds to stay up to date with the current investment strategies.

For investors looking to lower their investment management fees and increase their returns, using a robo-advisor may be one way to accomplish that. Lower fees come at the loss of human interaction and judgement. For those new to robo-advising, it may be worthwhile to try out this new technology by allocating a small portion of your wealth to a robo-advisor before going “all-in” to see how this portion of your investments perform.

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