ALGORITHMS, those fancy computer calculations that can help you find the closest slice of pizza, are upending entire industries, including money management: They have given rise to a new generation of robo-advisors such as Wealthfront—the company I use to manage my investments.
Why do I trust a computer with my savings? The truth is, humans aren’t very good at choosing investments. Exchange traded funds (ETFs)—low-cost passive funds that own a broad collection of stocks—have emerged as an attractive alternative to actively managed mutual funds. Index funds are eating the financial world, with the savings being passed along to everyday investors.
Wealthfront systematically evaluates the landscape of over 1,400 ETFs and spreads my money across nine primary recommendations, based on an assessment of my investment goals and risk tolerance. This is the sort of task algorithms are perfect for.
Wealthfront also takes care of three basic account maintenance activities. The first is rebalancing, which is the buying and selling of funds to maintain a desired balance between different asset classes. Let’s say your optimal balance is 60% stocks and 40% bonds. Because different investments will grow at different rates, over time your account’s ratio will get out of whack. Wealthfront takes care of the buying and selling of assets to keep an optimal balance.
Second, Wealthfront automatically reinvests dividends. This makes sure you’re maximizing the long-term growth of your account. Finally, Wealthfront takes care of tax-loss harvesting on all taxable investment accounts. When you own different assets, some will go up and some will go down. Tax-loss harvesting is the process of writing off investment losses to minimize your tax bill and maximize your earnings. It’s a strategy—previously reserved for millionaire investors—that Wealthfront has democratized. Just send the 1099 Wealthfront generates to your tax advisor and you’re set.
Of course, these investment goodies aren’t free. Wealthfront charges a flat 0.25% fee per year. That is significantly less than the average human financial advisor, who typically charges about 1% a year. Your first $10,000 is managed for free, and you can get an additional $5,000 managed for free for every friend you invite to the platform. It’s an effective “growth hack.” I’ve invited two friends, and have up to $20,000 managed for free.
As much as I’m a fan of Wealthfront, especially because of the free management bonuses, it might not be the best solution for me once my investments reach a certain size. At the moment, I’m happy paying 0.25% to not spend time managing my account. Once my account is larger, that fee could mean thousands of dollars per year—and it would be worth it to spend my time manually rebalancing my account and reinvesting dividends. But until then, I’m sticking with the algorithm.
Steven Aguiar is the founder of BlueWing, a B2B digital marketing agency. He majored in Economics and Hispanic Studies at Brown, and is a big fan of compounding interest.