From I ❤ Wall Street:

 

They say art is in the eye of the beholder so I want to get your take on something I painted in my studio today. I think it’s pretty good, way better than the macaroni art I made last week.

The subjects of this picture are three firms using algorithms to manage your portfolio auto-magically, also generally known as RoboAdvisors: Betterment, Wealthfront, and FutureAdvisor.

I’ve got a working title…”The Robots Are Coming To Eat Your Face Off, And Kill You, Or Maybe Probably Not.” This is my second series about RoboAdvisors. Series one was here, in case you missed it. So, let your eyes behold…

 

(click to embiggen, as Will Shakespeare would say)

Screen Shot 2014-05-28 at 10.29.43 PM

Now, to be a masterpiece of a growth business you need some of the following elements in your body of work: a hyper-growth opportunity in a market that adopts your product readily and pretty quickly (big numbers), with great margins, and a unique moat.

Big Numbers?

To give you an idea of what kind of big numbers I’m talking about, in 2003, after their first year in business, LinkedIn had 500k users and they raised $4.7 million in venture capital. 2004, 1.4 million users, raising another $10 million. 2005, 4 million users. By the end of 2007 they’d reached 9 million users, going back to the till for another $12.8 million. So, nine million users in five years, raising $27.5 million in ventured capital.

HTIC recently interviewed Bo Lu, CEO of FutureAdvisor, on the heels of their latest $15 million infusion of venture capital ($20.5 million total). And, Bo knows big numbers:

There are 32 million mass-affluent Americans-with assets between $100,000 and $1 million-and only 20 percent have an advisor. Sixty percent of families with more than $1 million in investable assets already work with a financial advisor. Eighty percent of our clients never have had an advisor. No ecosystem has ever served these people. That’s a big gap that’s artificial and made by economics. We want to bring the penetration up to where it is for affluent, and that is a 14-million-household opportunity.

So, this is big! Let’s celebrate…

I want to celebrate that 14 million household optimism, I really do. But, as an artist, I’m dark and tortured, so I can’t. When I see that after six years in some cases (Wealthfront and Betterment), the average account size between them is still about $47,000, and they now have almost 44,000 clients collectively I just cringe to think maybe we’re seeing another Adam Sandler film in the making. By the way, FutureAdvisor was founded in 2010, and currently has 800 clients.

So, margins then…

These RoboAdvisors want to “disrupt” whatever idea they have about the status quo, and they’re collectively generating about $3.8 million in fees annually as such. But it’s all software, so it must be hugely profitable, right?

The real liability in this equation is simply reality; the robots need humans. Today, there are roughly 100 people running the robots. So, if these employees are making only an average of $140k a year (my rough estimate using Wealthfront’s own compensation tool), including the executive suites, and “world-class” engineers and programmers, and all the people who still need to answer the phones and emails, then they are burning through roughly $14 million a year. Any guesses on what that number really is?

That number doesn’t including buildings or any travel, because this is the future — where everything is Skype, holograms, and email. It doesn’t include the globs of green being splashed around the web with marketing campaigns & promoted social media streams (’cause this is gonna be super viral with huge networking effects). Nope. This $14 million a year is just for the people. To generate $3.8 million in fees.

Screenshot 2014-05-26 17.44.32It’s the spreadsheet version of Matisse’s Blue Nude II, right in front of you. Just a hint of movement within the rough lines of an outlined shape of a timeless form.

Wealthfront, the biggest among the three firms I’ve highlighted, said last year they would need to manage $40 billion to be suitable for their investors. Now, I’m not sure what “suitable for their investors” means, but they’re 2% of the way there. Of course, that’s not including the dilution those investors just realized after the company raised another $35 million in venture capital this year. Now to be fair, I’ve chatted with Wealthfront’s CEO, Adam Nash, and I really like him, but as a movement for all of these firms I wonder…

Moar Moat?

In the business world moats are good. They keep competitors away, either by making things too expensive to emulate, too big, or too hard. Right now in the financial world there are at least 10 different companies I can name without even lifting a brush: Learnvest, SigFig, Next Capital, Personal Capital, Betterment, Wealthfront, Jemstep, MarketRiders, FutureAdvisor, and Covestor. All of them are basically proposing the same thing for the same audience: we help manage money and/or help plan for less, we’re smarter, and we make the user experience super duper cool & easy. For the end-user, though, me thinks we’re talking about the difference between sky blue and azure. Don’t ask me, I don’t know…

But, at what point do we see a big bank or brokerage firm (where TRILLIONS of dollars and MILLIONS of accounts are NOW) decide, “Hey, maybe we should offer a robo-advising service too?” Within a year or two using some simple reverse engineering, hugely profitable balance sheets, massive infrastructure, and tons of people…RoboGroup lives. What, you think they’re busy eating crayons? You think they don’t get the same “Millenials hate everything” reports? No, they’ll move when they want to. They’ll move when they see it’s profitable.

So, if there is truly anything ugly about art, it’s that ultimately art can and does die, or is eventually recreated as a super sweet tattoo — that’s just the reality of this situation. And maybe the saddest reality facing most of these firms today is the same reality facing most artists today; they won’t get recognized for their contribution to society until after they’re dead. But what do I know, I’m just an artist.

For even more insights you really must read the masterful commentary from financial planning god and famed art critic, Michael Kitces.

Is There A “Robo-Advisor” Bubble? Wealthfront, Betterment, & LearnVest Raise $95M In Capital In Two Weeks! – Michael Kitces, Nerd’s Eye View

Category: Investing, Think Tank, Web/Tech

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

5 Responses to “Paint By Numbers: RoboAdvisors”

  1. rd says:

    This is going to be an interesting battle out there especially with low cost providers like Vanguard and Charles Schwab looking to provide this assistance to people who already have relationships with them.

    In the end, I think these on-line advisors are ignoring many of the critical decisions people in their target group will need to make in their 60s, such as Social Security claiming strategies, annuity and long-term care decisions, understanding how their pension fits into inflation-adjusted income (most are not inflation adjusted or only partially), long-term care and health insurance decisions, downsizing home, updating their will and account beneficiaries, etc.. These are the most critical decisions that most people will need to make and will likely be of a magnitude the same or bigger than IRA/401k decisions.

    In the end, if people get the decisions above right and just have their 401k/IRA in a diversified portfolio with one of the low-cost providers, they are probably 95% of the way there. My guess is that most of those decisions will be worked out with an advisor sitting across the table from them. In many cases they will be multiple advisors, such as a lawyer, insurance broker, and financial planner at different times. Places like Vanguard are already setting up relationships with low-cost annuity providers to convert IRA assets that sit with them.

  2. JimmyJackEarl says:

    My guess is the exit strategy for all of these firms is to be bought out by a large bank or brokerage company. If you can prove the popularity and value of your platform it may be more cost effective for somebody to buy the company rather than reverse engineer it. The art metaphor is a good one, but it is leaving out the role of the collector. If the RoboAdvisors are the artists, big banks and brokerages are the collectors.

  3. VennData says:

    The government and industry both do not have incentives to make this an easy check-the-box solution. The government because industry lobbies them not to.

    401k withdrawals taxed at marginal rates!? Intuit topping every transaction from going to a central database so we just click to accept our tax forms the way they do many places in Europe!? The fight against information sharing health exchanges!? No fiduciary standards?! Trusts?!?!

    You all vote for the GOP who facilitate this nonsense.

  4. bfarzin says:

    Barry, I was with you till the ‘Banks are just going to do this themselves’ part.

    I cannot defend the robo-investors. I don’t know that the current breed or the next generation are going to do be successful at capturing the customers, but I am pretty sure the banks are going to miss this as an opportunity. They look at the current pool of money they manage, the current ridiculous fees and they are like the book-stores of old (or steel companies, or hard-drive manufacturers, etc. Take your pick!) The metrics that a bank will use about the returns that they are getting and just the numbers that are posted above are going to tell them to just ignore this – it is not a real threat and there is no concern to even try to get into this part of the space. They will stick with their knitting of taking AUM fees and sitting on big pilles of poorly managed assets.

    Some years from now, they are going to realize that they are hopelessly behind in automating the process of managing assets to track the index. The banks and asset managers will realize that they can’t build this themselves and that they are going to do a “WhatsApp” where they pay and exorbitant amount of money for something they should be building right now. The cycle is pretty well defined. The ‘research and development’ is the start-up world and, frankly, that is what VC investors are hoping for out of investing a this current crop of robo-advisors. They hope they will cash-out by selling to some mega-bank when the bank takes two attempts (and pays millions) to try and do this themselves.

    When does this happen? who get’s bought? I wish I knew! That would be a great investment. Alas, as you know, there is no way to predict this future.

    ~~~

    ADMIN: Note this was written by I ❤ Wall Street

  5. marketmap says:

    Wealthfront returns a whopping 6.3% CAGR over 18 years https://twitter.com/1marketmap/status/458980153423851520

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