As artificial intelligence and digital propositions start to weave their way into the financial mainstream, it is natural for consumers and investors to ask how well these digital newcomers are doing.
So-called robo advisers offer DIY investment portfolios for those who don’t want to pay an adviser or a private bank, or for those investors who don’t believe they can do better than an algorithm or a complex formula.
Investors either self-select a risk profile or take a short quiz which allocates them to one. Each robo will normally offer between 5 and 10 ‘risk profiles’ and assemble portfolios which map to these. The higher your risk profile the (typically) larger your slug of shares or equities. A Moderate portfolio will have about 60% in equities. An Aggressive one will have up to about 95%.
2017 is expected to be a year of huge growth in robo advice, with Investec and UBS the latest major names to join the line-up. April alone saw two new entrants with IG Smart Portfolios and eVestor joining the market.
For consumers looking to invest online, without the help of a financial adviser, the performance and investment skills of these ‘robos’ are critically important, yet very hard to assess as this market remains in its infancy. These providers are still so new that to date we have compared fees and advertising campaigns and websites – but not the whole raison d’etre of all of this, namely performance and returns. So forget the robo for a second – who is the best investor!?
At Boring Money we have worked with Morningstar Investment Management Europe to draw a line in the sand and start to analyse the risk and returns of the major robo advisers in the UK today. It’s early doors. Just 3 providers had a track record of more than 12 months as at the end of 2016 – MoneyFarm, Nutmeg and True Potential. Nutmeg is by far the most established robo with over 4 years of track record which gives them greater credibility today -although this competitive advantage will erode over time.
The different portfolios were grouped into common bands, according to asset allocation, and performance was analysed. These portfolios were also benchmarked by Morningstar to compare their performance against what they call, rather charmingly, their ‘naïve benchmarks’. These are described as “a reasonably diverse portfolio of investment views and the asset allocation of a UK investor seeking access to capital markets using publicly available low cost ETFs and tracker funds”.
Our question was how did the robos do against each other? And how did they compare against these benchmarks?
Returns varied dramatically over 2016
When we assessed the data, even suspecting that we would see differences, the variance in performance surprised us. Over the course of 2016, returns in a Moderate portfolio (this assumes total equities of circa 60%) from the three robos in questions varied from 7.6% to 16.9%. These numbers are calculated after fees. This was against a naïve benchmark of 18.35%, also calculated after fees.
|Nutmeg||Nutmeg Managed 6||7.6%|
|MoneyFarm||MoneyFarm Portfolio 5||16.9%|
|True Potential||True Potential Balanced Income Portfolio||15.0%|
There are a number of pretty significant caveats here. Caveat Number One. Trying to compare performance is not straightforward as we are comparing apples with pears. A ‘Moderate’ portfolio from Provider A is not the same as a ‘Moderate’ portfolio from Provider B. Because behind most of the robots sit humans. Making subjective decisions about markets and timings. So the detailed make-up of these similar sounding portfolios can differ dramatically.
If we look at some examples, Nutmeg’s Moderate Portfolio 6 had an average allocation of 18% US equities over 2016 and 24% in the UK. This is dramatically different from the MoneyFarm portfolio which had an overall similar equity weighting – but when broken down into regions, saw an average of 32% in the US and just 4% in the UK.
So we see two portfolios, both falling in the mid-range from a risk perspective, which vary dramatically in exposure to key markets. This has a significant impact on performance and over time becomes increasingly significant.
Of course these portfolios can also move in and out of cash as active investment decisions, and with cash holdings varying from averages of 6% to 17%, timing of trades becomes critical to overall returns.
Here comes Caveat Number Two. These services are still so new that we only have 2016 data from three providers. 12 months – and such a bonkers 12 months – is not a sufficient timeframe on which to make a judgement. The key thing of interest here is that although most of these players use so-called passive investments, the tweaking of the asset allocations is anything but passive. Big calls are being made. And against a backdrop of Brexit and Trump, and lumpy, volatile markets, these calls had very significant impacts.
We have seen the difference in allocations to UK shares above. Weaker sterling in the latter half of 2016 had a huge impact on portfolios, inflating the value of overseas investments and favouring those with larger chunks allocated to foreign markets. I’ll leave you to judge whether this was skilled foresight or luck, but we will be able to make clearer judgements when we have more than 12 months on which to assess performance.
Risk levels also varied significantly
Returns are just one side of the investment coin. The other factor is the risk taken to achieve these returns? To use an extreme example, if you had invested 100% into Peru last year you would have made circa 90%, whoopee! but taking on stratospheric risk levels to do so. And you can’t be doing that with customers’ money!
This chart below looks at risk. To include more providers, we had to go even shorter-term so take this with all the necessary caveats and don’t rely on it to make decisions– but we’re illustrating a point here.
Look at the differing degrees of risk which the robos took to achieve their returns. So even though the customer might assume he or she is in a very similar bucket of investments, for a similar ‘risk profile’ the actual risk being assumed as measured by volatility is significantly different. Put simply, some provided a much less bumpy ride than others.
Risk/returns for the Moderate portfolios (only available for all over 8 months so illustrative only!)
If your priority is actually to minimise risk as measured by volatility then Nutmeg clearly provided the least volatile journey for the Moderate investor. And True Potential found the investment ‘sweet spot’ which is to dial up returns as much as possible, with the least amount of risk. It will be interesting to see if this is maintained.
Across the robos’ most aggressive portfolios, returns over 2016 varied from 15%-18%.
If you’re a hobbyist investor, with a DIY portfolio fully invested in shares, how did you do in 2016? It would be interesting to assess your returns – and then ask yourself an honest question about the risk you took as well. Did you do better than the robos!? As the global political spectrum gets crazier by the day, is 2017 the year to admit that Metal Mickey might make you more, with less risk and a lot less time!?
We act as an independent and have no commercial axe to grind. We’re simply trying to help consumers work out who is doing a good job. And no investment manager likes being put under the microscope. They say the timeframes are too short (which is true today). They don’t like the benchmarks. They don’t like the interpretations. They don’t like the positioning. But if these guys are to take on the Establishment, which I believe they will, they can’t play by a different set of rules or argue for preferential treatment because they have funkier websites and catchier names. Performance will be scrutinised and we can start to do this – with hefty caveats – now.
In order to be credible, robos will need to beat these naïve benchmarks (or similar metrics) over time.
We will be collecting this data quarterly. Wealthify is the latest robo to have 12 months of track record today, to be followed shortly by Scalable Capital’s UK registered portfolio service. Watch this space.
An edited version of this article appeared in the April 2017 edition of Money Observer