Robo-advisers come of age as cost disclosure rules loom

Mike Katchenis looking forward to this summer, but it's not the prospect of warm weather he's talking about.

The CEO and founder of Wealthsimple, the biggest robo-adviser firm in Canada, is referring to the new fee disclosure policy that's coming to the financial services industry.

"We're thinking that will be a great thing for our business," he says.

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Beginning July 15, 2016, investment brokers and dealers will have to supply their clients with, among other things, a report that itemizes the annual costs of the service fees, embedded commissions, referral fees and all the other charges investors may have no idea they pay to their money managers. The figure may well astound some investors.

"It's shocking to us the number of people who believe they don't pay anything in fees," Katchen says. "This year will be a watershed in terms of people understanding how much they're paying."

Full-service,DIY, and the 'middle ground'

Wealthsimple and the dozen or so other robo-adviser firms in Canada hope to benefit from that transparency. Their main selling point is their lower cost, but easy online tools are also part of the attraction.

"We provide that middle ground at a fraction of the cost," says Randy Cass, founder and CEO of Nest Wealth, a Toronto-based robo-adviser. "We provide a solution for people who want professional portfolio management but want to keep as much of their money as they can."

Cass says firms like his seek outthe gap between the more expensive full-service firms and the do-it-yourselfers who manage their financial affairsthemselves.

That gap can be big especially when it comes to fees. A typical investor at a full-service broker or dealer whose portfolio is stuffed with mutual funds often gives up two per cent or more of their return in annual fees. That's two per cent each year, every year. And because those fees have been quietly subtracted from the fund before returns are reported, some investors have no idea they pay them.

Over the decades, those fees can end up costing an investor 30 or 40 per cent of what their portfolio might have been worth. (You can find out the potential long-term financial cost of each mutual fund you own with the Ontario SecuritiesCommission's mutual fund fee calculator.)

Low-cost ETFskey

That's where the robo-adviserssay they shine in comparison.

The online sign-up process is simple and can usually be handled with a smartphone. Clients answer a series of questions about their long-term goals and risk tolerance. They usuallycan speak witha realadviser (so much for the "robo" part).

• How well does a financial adviser know your risk profile?

The firms then use special software programs to design suitable investment portfolios, investing mainly in a basket of exchange-traded funds (ETFs). These products automatically track a stock marketindex or a set basket of stocks in a sector at a cost that's far less than the typical actively-managed mutual fund often just 0.15 to 0.30 per cent per year.

It's no coincidence that low fees help ETFs outperform the vast majority of actively-managed mutual funds over the long-term. Over the short-term, of course, some actively-managed mutualfunds will outperform ETFs.Butover the long run,ETFs almost always win the cost race.

Difference adds up

Robo-adviserfirms charge management fees that are either flat monthly rates (varying by the account size) or a percentage of the assets being managed, with declining fees for larger accounts.

Accounts are monitored and automaticallyrebalancedto keep investors' asset mix on track. Trades are oftenincluded in the total fee and sometimes cost extra.

There are people out there who love to manage their own money and control is a really important thing for them. Good for them.'- Mike Katchen, Wealthsimple

Add it all up and the annual cost of money management at robo-adviser firms usually falls well short of one per cent.

Yes, people can manage their own money for less. Just set up an account at a discount brokerage and buy ETFsyourself. Investors can set up a so-called "couch potato" accountand mimic some portfolios of ETFs that already exist. Or they can buylower-cost mutual funds from companies like Leith Wheeler, Mawer or Steadyhand.

"There are people out there who love to manage their own money and control is a really important thing for them," Wealthsimple's Mike Katchen acknowledges. "Good for them."

Buteveryinvestordoesn't have the time or inclination to go theself-directed route, even if it may bethe cheapest.

Gravenhurst, Ont.-based financial planner and blogger Sandi Martin knows that first-hand. She says robo-advisersarea worthwhileavenue for help-seeking investorsto explore. She's set up an investment fee calculator that compares some of the online portfolio management companies.

Above all, she says, everyinvestorwho ispaying for advice needs to ask themselves if they'regetting their money's worth from their advisers.

"If you're paying twoper cent(or more) for a bunch of mutual funds your investment adviser picked out for you but can't articulate in one or two sentences what else that adviser does for you, you're paying too much," says Martin, who is a fee-only planner who doesn't sell any product herself.

'A seismic shift'

Nest Wealth's Randy Cass says robo-advisersare trying to overturn what he calls an outdated model that has governed the trillion-dollar financial services industry for decades. "This is really a seismic shift," he says one that he thinksCanadians are ready to embrace.

Every dollar counts when returns are down.- Randy Cass, CEO, Nest Wealth

Cass also says he'slooking ahead to July and the new disclosure rules that will bring fuller fee and performance transparency to investors.

"Every dollar counts when returns are down," henotes.

There's no doubt that the space robo-advisers currently occupy is getting more crowded. BMO hasjust launched its own robo-adviser service and other big banks are expected tofollow. Otherwealth managers arebeginning to offer their own online robo-adviser channels.

Faced with more lower-fee competition,there's always the possibility that the providers of the more costly investment products and services may lower their fees.

But that may depend on how many investors think after learning the exact cost of their advice that they're still getting good value for their money.