The expression ‘pay peanuts, get monkeys’ certainly doesn’t apply to automated investment advice.
The robo advice industry has shown that it is possible to pay incredibly low fees, and still earn returns that outperform more expensive options. The SPIVA Scorecard has demonstrated this repeatedly over the last 20 years.
Settling the active versus passive debate
Robo advisors in Australia typically provide portfolios made up of a diverse basket of exchange traded funds (ETFs).
The ETFs themselves are highly diverse, aiming to replicate a particular market index.
So investors using robo advice gain instant diversity, both across and within asset classes, even if they have only a small amount to invest.
The added plus of robo advice is that most ETFs are ‘passive’ funds. They aim to generate returns that match, rather than beat, a given market index.
Without the need for a team of researchers trying to second guess the market, ETFs can afford to charge exceptionally low fees – often well below 0.5%. So when you use a robo advisor, more of your money goes to work being invested rather than paying fund manager’s fees.
However, passive investing has its naysayers. There are those who believe the whole point of investing is to beat the market – earning returns above the market index. Can it be done consistently?
That’s where the SPIVA Scorecard comes in.
What SPIVA found
‘SPIVA’ stands for “S&P Indices Versus Active,”. It’s the name for a regular series of reports that compare the performance of actively managed funds to various market benchmarks to see how well, and how often, these funds beat the market
In late 2022, the SPIVA Scorecard celebrated its 20th anniversary. With the benefit of two decades of results, SPIVA arrived at several important conclusions about active investing. It found:
- Most active managers underperform most of the time.
- The longer the investment timeframe, the less likely an actively managed fund will beat the market
- When good performance does occur, it tends not to persist. In other words, an actively managed fund may beat the market occasionally but rarely does it happen consistently.
SPIVA concluded by noting: “If they (investors) choose to hire active managers, the odds are against them.”
Active management costs more
The sting in the tail of actively managed funds is that they come with much higher fees than passive funds. According to ASIC’s Moneysmart website, investors can expect to pay a variety of fees including:
- Establishment fee – usually between 0% and 5% of the amount you invest.
- Contribution fee – payable when you add to your investment. It’s usually between 0% to 5%.
- Management fees and costs –typically between 0.5% and 2.5% per year.
- Performance fee – an extra fee a fund manager may charge if the investment return is better than the benchmark or target return.
- Advisor service fee – ongoing fee paid to your financial adviser for arranging the investment. It’s typically between 1 to 2% per year.
Why robo advisors use passive ETFs
All this highlights valid reasons for robo advisors to use ETFs. It means lower fees for investors, without compromising the ability to earn healthy returns over the long term.
There’s no doubt more Australians are embracing passive investing. In 2001 there were just two ETFs listed on the local stock market. By 2021 that number had grown to 223 funds valued at a combined total of $113.5 billion.
Similar impressive growth is forecast for Australia’s robo advice industry, which Rainmaker anticipates may grow to be worth $60 billion.
As Rainmaker notes, “What makes robo advice so attractive is that they charge average fees of just 0.3% p.a., based on a $10,000 placement. When combined with the embedded investment fees of the underlying ETFs, total fees are likely to be around 0.4% to 0.5% p.a.”
To illustrate how competitive this pricing is, it’s around half the total fees charged by the average super fund.
It makes robo advice a simple, affordable way for all Australians to start investing, and put more of their money to work at very low cost.