July 12, 2017 / 4:20 PM / 2 years ago

Fitch: Robo-Advisory Could Mark Shift for US Wealth Managers

(The following statement was released by the rating agency) CHICAGO/NEW YORK, July 12 (Fitch) Automated investment advice (robo-advisors) has the potential to drive significant long-term change for retail wealth manager platforms, says Fitch Ratings. As long as investment performance and offered services meet client expectations, robo-advisors offer substantial scalability and cost efficiency, allow for better segmentation of existing client bases, and align with the increasing popularity of passive investing strategies among retail investors. Robo-advisors may also assist wealth managers in addressing new required fiduciary standards for U.S. retirement accounts. Robo-advisors will likely continue to see double-digit growth in assets under management (AUM) in coming years, albeit from a low base of less than $100 billion in 2016. A 2016 KPMG study, for example, estimated that robo-advisors' AUM will total over $2 trillion by end-2020, equating to a compound annual growth rate of 68% over the five years from 2016. We believe that the wealth management divisions of large banks will increasingly adopt the technology, following similar moves from traditional investment management firms such as Vanguard, retail brokers such as Charles Schwab, and internet-based companies such as Betterment. Morgan Stanley recently announced a robo-advisor platform to be rolled out this fall, becoming the latest bank to offer an automated advisory product. Firms launching robo-advisors will likely cannibalize some of their existing advisory services provided to clients. However, given the rapid growth and popularity of automated advisory products, firms could risk losing clients to other firms or hamper their ability to grow market share if they do not launch their own robo-advisors. As such, robo-advisors could be an increasingly relevant technology requirement for wealth managers to defend market positions. New automated products could come with operational and implementation risks. Challenges include maintenance of portfolios within stated risk tolerances, communication with clients, ensuring suitability of investments (ie. maintaining the fiduciary standard for retirement accounts), and maintaining strict cybersecurity. The performance of automated asset allocation and investment strategies under market downturns and severe volatility also remain untested. Robo-advising products differ between companies, but in general, offer digital portfolio management including automated asset allocation among a variety of passive investments, rebalancing, trade execution and tax management. Some also offer 24/7 access to human investment advisors by phone as a complement to the automated service. Including access to human advisors could increase the attractiveness of robo-advisors to wealthier individuals, who may require more hands-on interaction given greater financial needs and portfolio complexity. The rise of robo-advisors is being driven by a confluence of technological advancement and consumer adoption of financial technology, rapid growth in passive investment strategies, and regulatory change. Robo-advisors could better enable retail wealth managers to more efficiently service customers through tailored products that better meet the needs of differing client segments. Some firms will use robo-advisors to target self-directed investors with lower asset balances, relationships which may have previously been uneconomical to service via human investment advisors. Newly launched products from large wealth managers have had substantially lower minimum investment levels than existing products, reflecting the improved economics. Recently initiated regulatory changes could underscore the advantages of robo-advisors for wealth managers. Some firms have begun offering robo-advisors as part of their response to the introduction of the Department of Labor's 'Fiduciary Rule,' which requires investment advisors managing retirement accounts to maintain a fiduciary standard and operate in the client's best interests. Robo-advisors would not be exposed to conflicts of interest, provided their trading and investment management algorithms were properly designed and defined. Contact: Justin Fuller, CFA Senior Director, Financial Institutions + 1 312 368-2057 Fitch Ratings, Inc. 70 West Madison Street Chicago, IL 60602 Justin Patrie, CFA Senior Analyst, Fitch Wire +1 646 582-4964 Media Relations: Hannah James, New York, Tel: + 1 646 582 4947, Email: hannah.james@fitchratings.com. Additional information is available on www.fitchratings.com. 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