Simulation: Would You Trust A Robot To Make Investment Decisions?

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Jun 12, 2016
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Interactive, Investing, Index Funds

 

download (27)I have written extensively about this new robo-advising trend that is sweeping across the investing world (see here and here), but realize that this concept can be challenging for students to grasp. Fortunately, there is a simulation that help students see first-hand how this works. Frankly, after you have had a chance to try out this tool you might feel like this is more an example of algorithmic investing (rules-based investing based on your risk tolerance and age) rather than robo-advising.

So, here’s the link to the Wealthfront website to get started. Click on the INVEST WITH WEALTHFRONT button and proceed to answer seven questions about:

  • Investment goals
  • Age
  • Pre-tax income (students will need to put in at least $1 even if they don’t have part-time job)
  • Household description
  • Value of cash and current investments
  • Purpose of investing
  • Risk tolerance question (if the stock market drops…)

Answer that 7th question and voila, the robot (or algorithm) spits out a recommended asset allocation complete with specific securities selected (website will ask for your email address, you can close that window without inputting your email address to see your asset allocation). Here’s an example:

Screen Shot 2016-06-10 at 11.08.04 AM

What makes for an even more interesting discussion is the page that appears when you click on “See more details” on the lower left:

Screen Shot 2016-06-10 at 11.09.39 AM

Some questions for your students:

  • What are the stock funds they recommended?
  • What percentage of your overall portfolio will be made up of stocks?
  • What factors do you think led them to recommend this percentage in stocks (I assumed 18 year old for the sake of this analysis)?
  • What happens to their stock recommendations as you toggle the risk tolerance dial?
  • Why do you think Natural Resources are included? Seems like a strange investment.
  • Why are they recommending primarily Vanguard funds?
  • What are the fees associated with this strategy (see the Your Costs tab on the bottom chart)?
  • What is the probability that a portfolio like this would lose money over a five year period (see Projected Performance chart)?
  • What do you think are the pros/cons of using a Robo-advisor? Do you trust their approach? Why or why not?

About the Author

Tim Ranzetta

Tim's saving habits started at seven when a neighbor with a broken hip gave him a dog walking job. Her recovery, which took almost a year, resulted in Tim getting to know the bank tellers quite well (and accumulating a savings account balance of over $300!). His recent entrepreneurial adventures have included driving a shredding truck, analyzing executive compensation packages for Fortune 500 companies and helping families make better college financing decisions. After volunteering in 2010 to create and teach a personal finance program at Eastside College Prep in East Palo Alto, Tim saw firsthand the impact of an engaging and activity-based curriculum, which inspired him to start a new non-profit, Next Gen Personal Finance.