How to Choose a Robo-Advisor, and When a Trader Would Use One
A robo-advisor runs a portfolio for you by software. For someone who already trades, the useful questions are what it costs in total, what it does automatically, and whether those automatic trades collide with yours.
What to compare: robo-advisors
- Total cost: advisory fee plus the expense ratios of the funds it buys The advisory fee is charged on top of what the underlying funds already take. Add both to see what the account costs each year.
- Registration as an investment adviser, checked on the SEC's adviser search A robo-advisor is an investment adviser. The SEC's Investment Adviser Public Disclosure site shows its registration, its Form ADV and any disciplinary history.
- Form ADV Part 2 brochure, read in full The brochure explains fees, conflicts of interest, how portfolios are built and whether the firm earns money from the funds it selects.
- How tax-loss harvesting works, and whether you can switch it off Harvesting inside the robo account cannot see your trades elsewhere, so a sale there and a purchase in your trading account can create a wash sale.
- Minimums and the account types offered Some services need a minimum balance for certain features. Check that the account types you want, such as an IRA or a joint account, are supported.
- Access to a human adviser and what it costs Some services offer planners by phone or video, sometimes only at a higher tier. Know what you get before you need it.
- Rebalancing rules and how cash is handled Find out how far the portfolio can drift before it rebalances, and what happens to cash held in the account between trades.
A robo-advisor is an investment adviser that uses software to do what a human adviser traditionally does for a portfolio. You answer questions about goals and risk. It picks an allocation, usually from a menu of index funds or exchange-traded funds, buys them, and then keeps the mix on target by rebalancing whenever market moves push one part of the portfolio too far from its intended weight. Many also run tax-loss harvesting in taxable accounts, selling positions that are down to realize a loss and buying something similar so the portfolio stays invested.
That is the whole product. What separates one service from another is cost, how the automatic trades are made, and who stands behind them, and each of those can be checked from documents the firm is required to publish.
The sections below are about how to compare them on your own.
Why a trader might want one
Plenty of active traders keep two pots. One is the trading account, run by hand, with positions opened and closed on a view. The other is long-term money that nobody should be touching on a bad afternoon.
A robo-advisor can hold that second pot. It enforces a plan you would otherwise have to enforce yourself.
The trade-off is control, and the price is an annual fee.
Add up the real cost
A robo-advisor usually charges an advisory fee as a percentage of assets, taken in small pieces through the year, while the funds it buys charge their own expense ratios, which come out of fund returns before you ever see them. The two are separate charges, so the figure that matters is their sum.
Percentages look small. They compound against you every year the money stays invested.
Also check for flat monthly subscription fees, which some services use in place of a percentage, because on a small account a flat fee can cost more as a share of assets than a percentage fee would, and on a large one it can cost less. Say a hypothetical flat fee is 5 a month. That is 60 a year: 1.2% of a 5,000 account, and 0.06% of a 100,000 one.
Tax-loss harvesting and your own trading
This is the item most likely to matter to someone who also trades.
The IRS wash sale rule disallows a loss when you buy a substantially identical security inside a window running 30 days back and 30 days forward from the sale date, and it looks across all of your accounts, including IRAs, and at purchases by your spouse, so a robo-advisor that harvests a loss in one account while you buy the same fund or stock in another can leave you with a loss the IRS will not allow that year. The robo account has no view of your trading account. It cannot prevent this for you.
So ask three things. Which funds does the service use as replacements when it harvests? Can you exclude specific securities? Can you turn harvesting off entirely?
If your trading account holds broad index funds, the overlap risk is higher. Keep a list of what the robo account holds and check it before you trade the same names. The wash sale window calculator shows the dates to watch around any sale.
Registration and the paperwork
Robo-advisors are investment advisers, registered with the SEC or with a state securities regulator depending on their size, which means they owe you a fiduciary duty and must file Form ADV.
Look the firm up on the SEC’s Investment Adviser Public Disclosure site. It shows registration status, the firm’s Form ADV and any disciplinary events. Then read Part 2 of Form ADV, the brochure. It covers fees in detail, conflicts of interest, and whether the firm or an affiliate earns anything from the funds it puts you in.
If the adviser uses its own affiliated funds, the brochure has to say so. Read that paragraph slowly.
Minimums, account types and people
Compare minimum deposits, which account types are offered, and whether you can hold more than one goal-based portfolio, and check whether you can transfer existing holdings in or must sell them first, since selling in a taxable account can trigger gains.
Human access varies widely. Some services include planners, some charge extra, some offer none. Decide whether you want that before comparing prices.
Red flags
- The firm does not appear on the SEC’s adviser search.
- The fee page does not mention fund expense ratios.
- Harvesting cannot be switched off.
- Transfers out carry heavy charges or require selling everything first.
- Performance claims with no explanation of how they were calculated, what period they cover or whether fees were deducted.
Where it sits beside a trading account
A robo-advisor handles one job: holding a diversified portfolio on autopilot. It will not place a stop, pick a tax lot, or react to news. For the trading side you still need a broker chosen on its own merits, covered in how to choose an online broker. If you run both, keep the holdings of each written down, decide in advance which account owns which kind of position, and check the list before any sale in either one, because the tax rules will treat them as one person’s trades whether the software does or not.
Also asked
- Can a robo-advisor lose money?
- Yes. It invests in market funds, so the account rises and falls with them. Automation changes how decisions are made. It does not remove market risk.
- Is a robo-advisor account protected like a brokerage account?
- The securities are usually held at a custodian broker, so ask which one and whether it is a SIPC member. SIPC protection covers custodian failure, never investment losses.