How Do Robo-Advisors Work To Make You Money?

It’s a situation I’ve heard of……

All too often. A person needs to invest money in order to truly grow your wealth because, let’s face it, you will never truly holistically save your way wealth. To grow wealthy, you need to learn to invest your money and use it many times over (aka Velocity of Money) to expedite your journey.

I talked more about why you can’t save your way to wealth and how to use the velocity of money in this article:

How To Use The Velocity Of Money To Grow Wealth

Here’s the kicker: you know you need to learn how to invest, but there is SO much information out there you don’t know where to start.

You think about using a financial advisor, but you heard they really don’t work out any better than doing it yourself. I talk ALOT about that in this article:

Why I Do Not Like To Use Financial Advisors

The problem with doing it yourself is you don’t know where to start, how the markets work, and what to invest in to meet your goals.

Planning your investments can seem like a daunting task. On one hand there is a bewildering array of products to choose from and on the other is the effort required to plan, monitor, and adjust your investments.

What to do?

Enter the robo-advisor.

What Is A Robo-Advisor?

Americans are investing in greater numbers than ever before. Many investors, especially new investors, are turning to robo-advisors to get started and even enhance their current portfolio.

Robo-advisors were first launched in 2008 (Betterment was one of the first) and touted as a tool to bring professional money management to the masses.

Before 2008, these tools already existed but due to its high cost were only available to professional financial advisors.

Robo-advisors changed all that.

Robo-advisors are automated, algorithm-driven trading and investing digital platforms used to build and maintain financial portfolios.

A robo-advisor also provides financial planning services such as financial advice and can manage investments with little to moderate levels of human supervision. In other words, robo-advisors are using a type of artificial intelligence to power the algorithm and deliver the service you like and will come to know.

Artificial intelligence is changing the world of retirement planning. By using improved datasets and algorithms to efficiently deliver solutions tailored to people’s needs, AI can help them save, invest, and retire just as well as any human financial advisor.  

How Robo=avisors Use artificial intelligence

It makes investors more efficient by providing them the tools they need to make decisions just as well as any financial advisor could with a lot less in fees.

Robo-advisors have grown in popularity because they offer users simple and cost-effective ways to invest that avoid the high fees being paid to human professionals.

While some do provide a moderate level of human guidance as a complementary service, most robo-advisors have the objective to take the emotion out of investing. A numbers-driven approach creates an investment strategy by using the inputted information from an investor to create a financial portfolio that fits their needs.

Initially offered by startups, robo-advisors are now also offered by major financial institutions such as Fidelity and Charles Schwab as part of a suite of financial services.

Now that we have discussed what is a robo-advisor, let’s discuss how they work.

How Does A Robo-Advisor Work?

A typical robo-advisor follows 3 steps to create your portfolio.

Step 1: Open An Account, Ask Questions, and Deposit Cash

Once you decide to open an account, you’ll start by creating a login.

The robo-advisor will ask the client questions about their financial situation, risk tolerance, and future goals using an online survey.

Typical questions can include your age, investing experience, investment goals, time horizon to retirement, and overall risk tolerance.

The data is then used to develop personal recommendations, offer advice, and develop ways to automatically invest for you. We’ll talk more about this in Step 2.

Once you are setup, you’ll then connect a bank account for funding the robo-advisor account. When an upfront deposit is made, you can then start the investing part of your journey.

Step 2: Robo-Advisor Develops Investing Strategies

The information provided to the robo-advisor helps them create investing strategies for you.

Many robo-advisors use Modern Portfolio Theory as a foundational piece for developing strategies.

While some allow you to invest in individual stocks and bonds (i.e., M1 Finance), the majority invest in index and mutual funds.

Like your 401K, robo-advisors like to invest in low-cost index funds, target-date funds, and mutual funds that both spreads your investment across different assets and charges low-fees to do it.

The other part of their investing strategy is asset allocation. Asset allocation is how much is invested in a certain asset class.

The great thing about robo-advisors is that they do this for you automatically.  The robo-advisor maintains the portfolio by keeping an asset withing a range of percentages.

For example, let’s say that the robo-advisor has allocated 25% of your portfolio in the Russell 2000 Index Fund. The robo-advisor will give it a little wiggle room to work within, usually about +/- 5%. If the index fund allocation goes above 30% or below 20%, the robo-advisor re-balances the portfolio for you automatically.

This saves a ton of time and effort on your part to do the re-balancing. Plus, how many human financial advisors will do that for you automatically at the prices robo-advisors charge? When you find one that does, send me a comment because I’d love to interview them. 😊

Step 3: Robo-Advisor Keeps Portfolio Aligned To Investment Goals

Another aspect of re-balancing is aligning your portfolio to your goals.

As market conditions change or as more money is invested, the robo-advisor’s software will automatically align your portfolio to optimize aligning it with your investing goals.

The reason is your investment goals are the drivers for both the asset allocation and the products being invested in.

The best part about this?  It is done for you automatically.

How great is that? 😊

Now here is the $10,000 question………

How Do Robo-Advisors Make Money?

I mean, c’mon we know they do not do it out of the kindness of their hearts. They are a business just like anything else.

While they offer much lower rates than human advisors, I’m sure you have the question of how they REALLY make money from you. Let’s face it. The big boys like Charles Schwab and Fidelity would not do it if there wasn’t money to gain.

Here is how they make money.

First off, robo-advisors charges a management fee for its services (aka wrap fee). Some have a straight fee and can range from 0% – 0.5% per year, but the majority charge around 0.25%.

What this means is that for every $1,000 under management, robo-advisors charge $2.50 per year to manage your funds.

This may sound like a lot but it’s not when compared to human financial advisors who typically charge a 1-2% management fee. In other words, for every $1,000 under management, they charge about $10-20 to manage……. and the portfolio performance is comparable (NOT superior) to a robo-advisor.

Other robo-advisors have a staggered payment structure (aka sliding scale) based on the assets under management.

Here is an example,

  • 0% for the first $10,000 in assets
  • 1% for $10,000- $50,000 in assets
  • 2% for $50,000 – $100,000 in assets
  • 3% for $100,000 – $250,000 in assets
  • 5% for $250,000+ in assets

In addition to the management fee, robo-advisors can make money in other ways.

Another way is to charge interest earned on cash balances (aka cash management). This interest is credited to the robo-advisor not the client. While most clients have very small amounts of cash in their account, when you multiply this by a million people, it can really add up.

How Robo-Advisors Make Money

Finally, robo-advisors can earn money by marketing targeted financial products and services to their customers such as insurance, mortgages, banks, or credit cards. These are often done through strategic partnerships rather than advertising networks.

Now you may be asking, which robo-advisor is right for me?

We’ll talk about how to choose and what might be some robo-advisors to start investigating today.

How To Pick The Best Robo-Advisor For Beginners

The answer to that question is… it depends.

If you are planning to start with a little money and have no investing experience, your choices would be different than if you had a large sum of money and some investing knowledge.

Also, if you feel you want a human advisor to brainstorm with and act as your safety net, your choices will change than if you just wanted the robo-advisor to do all the heavy lifting for you.

That’s why I say it depends.

Here is what separates the best robo-advisors for beginning investors.


A lower fee is always WAY better than a higher one. Paying more for a service does not necessarily mean you receive better service.

Low Deposit Requirements

If just starting out, odds on you do not have much money to invest. Some robo-advisors will let you get started for as little as $100 while others require larger initial deposits. If just starting out, this can be a major factor.

Human Advisor Access

Like I said above, you may want that human safety net for making decisions and bouncing ideas off. If so, some do offer a human / robo-advisor hybrid set up that may be right for you.

Another aspect of human advisor access is having reliable customer support who can answer your questions, navigate the site offerings, and help you manage your financial life.

Educational Resources

Good robo-advisors offer lots of resources to educate you on your investing journey. This can include research tools, tips on how to budget, what to look out for when buying your first home, and much more.

Investing is only 1 part of a solid financial plan. Having a robo-advisor who understands that and can help you may be vital to your success.

Easy To Use Platform

I don’t know about you, but I do not want to spend hours setting up my account. I do not want to struggle to get my information verified or to learn how to use my account.

IMO, a robo-advisor should be easy to get started with and their site should be easy to navigate.

Plus, their site should be easy to integrate and seamless with bank account setup.

If not, it’s a direct reflection of their capabilities and understanding of their client base.

What Robo-Advisors Might Be Right For Me

If looking for some suggestions to get started. Here are a few I have experience with.

  • M1 Finance – The main thing I love about finance is their low fee structure ($0 commissions / management fee and 0.20% expense ratio) and their great tools. They have a plethora of videos and tutorials to guide you on your investing journey. Plus, they can structure your portfolio any way you want. Want to invest in individual stocks? No problem. Bonds or index funds? Sure. All the above? Sweet! 😊
  • Fidelity – I love Fidelity for both its customer service, tools, and fee structure. Their robo-advisor, Fidelity Go, has low fees, no minimum balance, and have a lot of tools to grow your financial knowledge
  • Personal Capital – a great combination of human and robo-advisor with a lot of tools you can use for budgeting, investing, retirement planning and so much more. Their fees are on the high side though (0.89% management fee)
  • Betterment – The one what started it all! Easy to use platform, $0 per trade, and 0.25% management fee.

Is A Robo-Advisor Right For You?

Only you can answer that.

Today, we covered what is a robo-advisor, how they work, how they make money, what to look for, and a few examples to research.

IMO and my personal experience, robo-advisors are a preferred alternative to human financial advisors. Robo-advisors have similar rates of return for a lot less cost.

But don’t take my word for it. Check it out and let me know what you think.

Live The Life You Love, Want, And Deserve! 😊


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