Archive | March, 2017

There’s Disruption and DISRUPTION

7 Mar

Disruption is a word that gets more diluted and fluffy by the week, so it’s reassuring when it’s used accurately.

Robo-advisors first appeared in 2008, pioneered by startups like Betterment and Wealthfront.

By 2011 a trend was emerging and according to Bloomberg robo-advisors will be managing $2 trillion by 2020.

In other words, three years from now, algorithms will be managing an amount close to India’s GDP.

If that’s not disruptive, will somebody please tell me what is.

And it’s not just the rapid growth in assets under management that’s impressive, there’s the psychology behind it.

I’ve worked on enough financial services projects to have learned a couple of things:

  1. People are emotional about money.
  2. People are irrational about money.

And having an algorithm manage your money is, at first glance, counterintuitive.

Although considering just 15% of Americans trust the financial service industry to act in their best interests, maybe it’s not as counterintuitive as it seems.

The industry has done a great job overcoming consumers’ negative bias toward financial advisors.

Especially considering consumers were still reeling in the aftermath of 2008’s global market collapse.

Getting people to trust an algorithm with their investments marks an extraordinary change in perception and even established firms like Vanguard and Charles Schwab have jumped on the robo-wagon.

In actuality, a robo-advisor’s lack of cognitive bias and emotions, gives it significant advantages in trading securities.

The other big advantage is pricing, algorithms don’t need custom tailored suits or huge year-end bonuses.

In a nutshell, they’re better than all but the very best fund managers and cheaper than any of them.

As disruptive as this may be, the model could be pushed a lot further.

Let’s get back to that projected $2 trillion and put it in perspective.

In 2014, only 8 countries had a GDP larger than $ 2 trillion.

So if robo-advisors can manage an amount larger than most countries GDP, why can’t they manage a country’s GDP?

If they do a better job managing personal wealth wouldn’t they do a better job managing national wealth?

Or put another way, if algorithms can beat 8 out of 10 fund managers, wouldn’t they out-perform 8 out of 10 Finance Ministers?

I don’t think it’s that farfetchedFinance Ministers have the same inherent human weaknesses as traders.

And unlike investors, taxpayers don’t get the benefit of a benchmark or index to gauge their performance against.

I bet algorithms wouldn’t run a $450 billion deficit or build bridges to nowhere, or waste a billion dollars canceling a power station, like Ontario’s profligate Liberal government.

Of course it will never happen.

While disruption is lauded, DISRUPTION is another matter.

Long after truck drivers, neurosurgeons, barbers and rocket scientists have been replaced by robotics, politicians will still be squandering our money.

Like death and taxes, you can bank on it.