Why the rise of the robo-advisor matters for Ireland

They may never be our investment overlords but when it comes to financial decision-making, one thing is for sure, the robots are coming.

In the US the use of robo-advisors, online platforms that take automated investment actions based on the risk preference of the consumer using it, has already grown significantly.

According to projections from US consulting firm AT Kearney, assets under management by robo-advisors look set to rise to around $2.2 trillion within five years.

In Ireland we can expect to see the concept become increasingly familiar over the next 12 to 18 months, creating new opportunities for those in the financial sector - including banks, insurance companies and pension funds - to differentiate themselves and provide added value services.

But the rise of the robo-advisor brings challenges as well as opportunities.

"Robo-advisor services are about utilising and applying technology in the context of financial decision making," says Dr Philip O'Reilly, programme director of the MSc. in Digital Business at the Irish Management Institute.

“Traditionally investment decisions were made on the basis of a – human – third party advisor. Customers would come in and have a chat about their investment needs and the products and services available to them and, ultimately, the insight provided by the advisor was his or her own. What robo-advisors do is apply artificial intelligence and advanced algorithms to help with this decision making process.”

A robo-advisor product is designed to take actions that are determined by characteristics of the user, including their appetite for risk, age profile and other factors such as how much money they need to save for retirement. Primed with this information it can trawl across the entire market digitally to find the best options.

Typically delivered via mobile app, and at a lower cost than traditional investment services, they are particularly attractive to “digital native” millennials, he says. As cash-strapped younger age groups are traditionally a cohort that investment companies do not seek to target, this presents new market opportunities for the sector, he says.

However, it isn’t only younger people that are attracted to robo-advisors. “The looming pension funding crisis will force people to become more conscious of investment generally, as well as the particulars of where and how they invest,” says O’Reilly.

Changes in pensions legislation have already seen retirees take ever greater responsibility for their accumulated funds, rather than simply having to purchase an annuity and leave the decision-making to a pension provider, he points out.

“In the US, where people are much more used to using options such as the stock market to drive their savings, we have seen robo-advisors adopted by high net worth individuals who have significant sums of money to invest as well as by millennials who have grown up with technology and therefore don’t see anything unusual about using them for investment purposes.”

For the traditional financial services sector, whether banks or investment advisors, the question is how best to incorporate robo-advisors into their current offerings. It could be as part of a suite of services offered direct to consumers, or kept as a digital tool used in-house by investment advisor staff.

“I think consumers will still want to talk, at least on an annual basis, to a person. There is no question but that the rise of robo-advisors will open up the investment sector to many more people, helping to make them more sophisticated as investors. But the key will be trust, both for the individuals availing of robo-advisor services and for the financial services organisations looking to provide them. Not all algorithms are equal. Different products offer different terms and conditions, and operate on different models. Education around this topic will be hugely important.”

It’s a sector that will require regulating too, most likely by the Central Bank.

“Most likely consumers will gravitate towards those financial institutions that they trust and will use those institutions’ proprietary robo-advisor offerings.  But a lot of investor education will be required if consumers are to be able to select the best service for their needs. If we’re talking smaller amounts of money, the kind of €20-a-pop punt people are happy to take on crowd-lending platforms such Kickstarter, that’s one thing. But where a person is talking significant amounts of money, such as funding for retirement, their choice of robo-advisor becomes distinctly more risky.”

Other factors likely to drive demand for easy to use, inexpensive automated investment services include the continuing low interest rate environment and a loss of appetite, in the Irish market in particular, for traditional wealth creation vehicles such as property investment.

“All of this is encouraging people to look at their options more, not just into the stock market but into investment products generally. But understanding, and comparing, investment vehicles is hard. Being able to rely on the wisdom of an impartial algorithm will appeal to many people, particularly if it comes from a trusted brand.”

For the financial services and investment sector therefore, the time to act is now. “Robo-advisors are already well established in the US. They are catching on in the UK and, I reckon, will be here within 12 to 18 months. This will give rise to all sorts of regulatory issues in the background, but in the meantime,  financial services companies need to start asking themselves some very pressing questions such as which is the best platform to choose, what’s the best model for them, and how best to roll it out to ensure customer engagement,” says O’Reilly.

“It’s a market that is only in its infancy here but it’s growing and, for those who get it right, the potential rewards are significant.”

Dr Philip O’Reilly is Programme Director for the MSc. in Digital Business at the Irish Management Institute and Senior Lecturer at University College Cork.

[ www.imi.ie/courses/msc-digital-business ]