Last week, I was listening to the Bigger Pockets Money podcast where Scott and Mindy were interviewing Brandon, The Mad Fientist. Late in the interview, he made an off-the-cuff comment that basically justifies the existence of the personal finance movement.
He said, “If everybody just did the mathematically optimal thing, then you wouldn’t have blogs and podcasts and everybody would just follow the script.”
Yup. Nailed it.
We know what the rational choice is.
Spend less than you earn and invest the difference.
Dollar cost average.
Buy low cost index funds.
Set it and forget it.
Let compounding do its thing.
But it’s never that simple. I consider myself exceptionally rational, almost to a fault. But I can’t help letting my feelings or hunches push me into making poor financial decisions. That’s the main reason I stopped buying individual stocks.
When it comes to investing psychology, I don’t have my shit together. I’ve never had my shit together, and I most likely never will.
Where there’s (a lack of) will, there’s a way. A system.
I found my system. It’s Robo-advisor investing.
What is a Robo-Advisor?
Robo-advisors are actual robots that physically buy stock certificates using your cash. They usually look like members of Daft Punk. They also dig retro jams, as their appearance would suggest.
Okay, just making sure you’re still reading. Let me start again.
Robo-advisors are a subset of the financial investment sector that provide investment advice and asset management services with little-to-no human intervention. They are automated investment platforms that use rules and algorithms to invest clients’ money based on pre-defined risk profiles.
There are a number of robo-advisor platforms that vary in their design, fees, and investment options. Since I’m not here to shill any products, I’ll let you follow this Nerd Wallet link if you want a breakdown of robo-advisors, comparisons, and reviews.
We decided to invest our money with Wealthfront. The sleek interface, low fee options, and library of white papers were enough to lure me in. And, so far, I’m pretty happy.
The Benefits of Using Wealthfront
Like many financial services providers, Wealthfront is the 3-headed hydra of banking, investing, and borrowing. Wealthfront continue refines its platform, and pushes out new features on a regular basis.
Let’s dig into the three main services.
Banking
As far as I can tell, Wealthfront offers all of the benefits of other online banking providers: no account fees, unlimited transfers, bill pay, a meager APR, and FDIC insurance. Nothing earth shattering here.
Wealthfront promises the ability to help you automate your finances (which I like), keep a buffer for regular expenses, and invest the difference. I guess it’s like a robo-budgeter. This could be an interesting feature for some, but I haven’t really explored the capability here.
Investing
To be clear, I moved our after-tax accounts to Wealthfront mainly for the investing features. I wanted a service that would automatically invest available funds according to a predetermined strategy, rebalance as necessary, and tax-loss harvest. That’s exactly what Wealthfront offers.
Before you begin, Wealthfront puts you through a brief set of questions to assess your risk appetite, similar to most other online brokerages. Since we’re relatively young and aggressive, we landed on a risk score of 10, which is the highest tolerance for volatility.
Based on this score, Wealthfront allocated our investments in the following way:
As mentioned, Wealthfront will maintain this investment breakdown through selective reinvestment and rebalancing, as necessary.
This is all well and good, but the biggest benefit that I signed up for was tax-loss harvesting.
Tax-Loss Harvesting
Tax-loss harvesting is when equities are sold at a loss and simultaneously replaced with purchase of a similar equity. In this way, you’re able to lock in a tax loss while staying fully invested in the market. The realized loss can be used to offset any capital gains and/or reduce taxable income (up to $3,000 per year).
Wealthfront charges a 0.25% annual management fee, applied monthly. The expectation is that the tax-loss harvesting will more than compensate for the fee. They include a bunch of research that shows that historically the tax savings outweighs the (relatively small) fees.
Wealthfront has harvested $765 of losses in our ~6 months with them. This is actually kind of impressive, since the market has basically gone straight up over the past few months, as is evidenced by our 26% return over this period. During the same time, we’ve paid $177 in fees. At our expected marginal tax rate of 27.75%, we will save over $200 in taxes. So far, Wealthfront is proving its worth. I expect it will be even more worth it if we actually see a market correction (or worse).
Wealthfront can manage retirement accounts such as 401ks, as well as taxable brokerage accounts, 529 college savings plans, and trusts. We’re only investing in taxable accounts, because the tax savings is the main benefit for us.
Borrowing
One additional benefit to the Wealthfront platform is that they allow you to borrow against your portfolio at a very reasonable interest rate. While borrowing against investments isn’t always a great strategy, this feature can serve as an excellent emergency fund.
Previously, we maintained a HELOC (home equity line of credit) with our mortgage lender as a source of emergency funds. It was relatively difficult to set up this line of credit, the interest rate was quoted around 5.5%, and we never used it. We also had to pay a $500 fee for closing the account early when we decided to move, which sucked.
Wealthfront’s borrowing feature allows you to borrow up to 30% of your portfolio’s value, which you can apply for online and be approved instantly. They claim to deliver the money within one business day, in most cases. The interest rate can vary, but for us it currently sits at 3.65%, which is very good. Much better than a credit card or personal loan.
Chances are, we’ll never use this feature. But it’s always nice to know that the money is available in a pinch.
The final benefit of Wealthfront I’ll mention is the account dashboard. They obviously put a lot of effort into presenting a nice, sleek, informative interface, which integrates other accounts and gives a holistic view of our finances. Honestly, we still use Personal Capital for tracking our overall finances and net worth, but Wealthfront appears to be a decent alternative.
Potential Drawbacks
There are a few more Wealthfront ‘benefits’ that I failed to mention. Why? Because I consider them to be drawbacks.
Basically, Wealthfront has been offering more nuanced investment options over the past couple years, and I find them to be a net negative. Why? They’re giving customers more options, which is the opposite of what I was seeking.
Here are some of the newer ‘features,’ and why I hate them.
Stock-Level Tax-Loss Harvesting
Stock-level tax-loss harvesting means that, rather than owning the S&P index, you will own stock in each of the 500 individual companies that compose the index. This makes tax-loss harvesting much more efficient.
For example, if Microsoft’s stock drops 20% because Bill Gates turns out to be the leader of pedophilic cabal, Wealthfront will automatically harvest this loss at the individual stock level.
Stock-level tax harvesting seems like a pretty nice feature. The reason I don’t use it? If you ever decide to transfer your money out of Wealthfront, you’ll have to deal with at least 500 individual stocks in your new investing account. Sounds like an accounting nightmare to me. I’ll forego the benefits to keep it simple on the back end.
Smart Beta
Smart Beta is “an investment feature, based on investing factors, that’s designed to increase your expected returns by weighting the securities in your portfolio more intelligently.”
Well, what the shit does that mean??
It looks like they are adjusting the weighting of holdings to goose the return. As you might know, equities are apportioned in indexes according to their market capitalizations, which could lead to higher volatility and (possibly) lower overall returns.
It sounds like Wealthfront is trying to re-balance the weighting within these indexes. I have no visibility as to whether this has been working, but I’m dubious.
Risk Parity
I’ll make this one simple: Risk Parity is active investing. This should sound sketchy to you, because it is. The whole mantra of the FIRE movement is passive investing, because nobody consistently beats the market.
The funny thing? Wealthfront’s Risk Parity has been losing money vs index investing. Why people still opt for active investing is beyond me. Oh yeah, they charge an extra 0.25% of your wealth to lose your money. No thanks.
Portfolio Customization
Here’s Wealthfront’s latest bad idea: further customization of portfolios. Instead of defining your risk and getting a corresponding investment allocation, you can now select exactly how your money is split up among funds.
To me, this defeats the whole purpose of Wealthfront. Basically, they’re making a suggestion, and then letting you allocate your funds however you’d like. You can also choose among some popular sector funds and ETFs, such as Cathie Wood’s Ark Invest fund.
I think this is a terrible idea. Sure, some people like having more investment options. But to me, Wealthfront’s beauty was its simplicity. Transfer in some money, and we’ll put it to work. Nothing more to worry about.
Now, the platform is a circus of clever re-weighting, active investing, and too much choice. The benefits they initially espoused are fading into the abyss.
Well, that got negative in a hurry.
Summary
Here’s the bottom line: Wealthfront, like many robo-advisors, can be an excellent way to passively invest your money with minimal intervention. It’s automated, it’s efficient, and can even save you some money on your taxes each year.
On the downside, it’s beginning to offer way too many methods of screwing up your returns. This was my express purpose for switching to Wealthfront, so I find myself in a bit of a quandary.
I’m going to stay, for now, but the service is beginning to lose its luster for me. This is the same thing that happened to Waffles on Wednesday a while back.
For the hardcore Boglehead that can “VTSAX and chill” with no issues, then it’s probably best to stay with your approach.
If you like buying individual stocks, and you don’t let your emotions and biases wreck your returns, then stick with that method.
If you want to invest your money and forget about it, maybe a robo-advisor could still be for you.
What do you think about automated investing? Would you rather manage your own allocation? Are you riding ARKK to the moon? Let me know in the comments.
SPCE to the moon!! 🚀🌕
haha, better have those diamond hands.
well, you know where i stand on all of this. we’ll stay with individual stocks plus some index funds in the 401k. it has worked out well so far. i am interested to see how your w/f money performs versus something like buy 60% growth etf like qqq or vgt and 40% of a value etf and rebalancing every 6 months or so? i guess like every other business they will design products to get ahold of more of your hard earned cheddar.
I, of course, already knew your take. The funny thing I just noticed: I wrote an entire article about investing and didn’t mention performance. I’m not even thinking about the relative performance of my Wealthfront money vs the rest of my portfolio. I know that if I don’t fuck around with it, it’ll do better than if I do play with it. That’s all the matters to me.
Interesting article. Appreciate you sharing your experiences. NPR had a segment about robo investing not too long ago that brought up some violations of the wash rule during tax loss harvesting. Some people weren’t getting any tax savings… I’m sure this is probably the exception to the rule they were highlighting. Sounds interesting but I’m not sure I could handle that fee—though I likely have lost more by stock picking than the cost of that fee lol.
I also have a bad investing itch that needs to get scratched once and a while too. How I wish I could VTSAX and chill. I’ve found a decent method for myself to scratch the itch by buying a few stocks here and there, nothing too substantial hurt me, but substantial enough to remind me that index funds are the ticket to the promised land.
I also agree with you that the less options we have the better off we are. Simplicity is bliss…therefore I index fund.
Thanks Noel. Yes, I’ve been concerned about the wash rule a bit, since we still have money (in index funds) in multiple other retirement accounts. I actually changed the ETFs I’m buying in those accounts, to ensure they’re not ‘substantially similar’ to the Wealthfront funds. Hopefully we’ll be good there. Buying a few stocks and indexing the rest is probably a decent way to feel active while remaining passive. That has worked for me, at times, but I inevitably keep tinkering. We’ll see how the new approach goes, if I leave it alone for more than a year, that’s a major victory!
Et tu, Brute?
😀
I get what you’re saying. I get the itch too to play around and optimize when just VTSAX would suffice but I’m not going to pay a 0.25% At least, not yet.
yeah, I know, paying anything more than 0.04% is sacrilege to most people in this space. As long as the tax loss benefit stays ahead of the fees, I’ll stick with it. If it doesn’t “pay for itself,” I will definitely need to reevaluate.
I actually have dipped my foot in a couple of speculative vehicles (think about the Great Flood) that charges a pretty ER of 0.75% – but those are just speculations and don’t even make up a full percentage of our portfolio. You know, just a quick scratch of that itch!
Bought some ARKK at the top–I feel seen! I am largely VTSAX and chill but can’t help myself from poking around on the fringes, which ultimately won’t help or hurt me all that much but will cause me unnecessary stress haha. The key for me is fairly small amounts on individual stocks, with a holding period of at least a few years. I’ve looked at Robo advisors but I think I’ll just stick to making dumb decisions as my supplement to the index.
haha I guess we all have to find our own way to deal with our dumb decisions. If you can stick to your holding periods, you’ll probably be alright. That was probably my biggest problem: I sold my winners too early, and I sold my losers too early as well. It was just too hard to leave things alone.