My colleague Andrew Osterland missed a little bit of the forest for the trees yesterday.
His piece "Still wary of advisers, investors using direct retail channel" focused on the results of a Cerulli Associates Inc. report based on investor data from 2010 through 2011. In a nutshell, the study and his piece talked about how U.S. investors are putting more of their money into the direct retail channel.
I'd like to expand the discussion into what is epitomized by a blog entry posted the day before by the well-established startup Wealthfront. On its blog, the folks at Wealthfront announced they closed their second round of institutional financing, receiving $20 million.
Wealthfront is a direct channel offering to investors, but is in a sub-group that can be classified as a delegator offering rather than a do-it-yourself investing site like a discount brokerage.
For a minimum investment of $5,000, Wealthfront creates a diversified portfolio spread across 11 different asset classes based on low-cost ETFs representing each of those asset classes.
Getting back to that Cerulli study, the crux of its findings were that assets into the direct channel increased 8.8% to $3.7 trillion in 2011, while the overall level of retail assets in the industry grew by just 2.7%.
While my colleague correctly included the likes of Charles Schwab & Co. Inc. and Fidelity Investments as the major constituents of the channel, the more interesting story over the next few years (in my opinion) is going to be the startups in the channel.
In particular, I'm interested in those startups that are capturing what could have been the future clients of financial advisers, including the likes of not just Wealthfront but its most similar competitor Betterment.com, as well as those in other sub-categories.
In that group I would include Motif Investing, Covestor, Future Advisor and the DIY portion of PersonalCapital.com (which has a separate registered investment adviser for taking on clients whose needs mature into a size and sophistication that demand a human adviser), among others.
Among Wealthfront's new investors is Mike Volpi of Index Ventures, who lead the round and was joined by Chamath Palihapitiya of The Social+Capital Partnership. But it was the mention of another of the major new investors — Reid Hoffman of Greylock Partners — that piqued my interest.
Mr. Hoffman was co-founder of LinkedIn.
Over on Greylock's blog Mr. Reid wrote that the firm has, “ … the potential to disrupt the existing model for financial advice and management through software – and we're glad to have a front-row seat.”
He went on to write: “Unfortunately, the industry is also rife with hidden fees, conflicting incentives and inappropriate products. We believe a software-based company has the ability to offer a combination of low price [and] sophisticated financial advice unmatched by traditional alternatives.”
Despite always being lumped in as one of the big three of social networking, Mr. Hoffman's LinkedIn (Facebook and Twitter, of course, being the other two) remains the single social network with a multifaceted business model that delivers steady revenue with little reliance on advertising.
And now he and other sophisticated technology entrepreneurs are betting on technology for the direct investing channel.
Wealthfront has grown its assets under management to more than $170 million in the past year. And on their blog they state that those “… assets under management have grown more than 70% just since the beginning of 2013.”
Not bad considering the firm's minimum investment is $5,000 with no management fee for an investor's first $10,000. To foster growth the firm also has a potentially valuable gimmick — if an investor invites 10 friends they can get $60,000 managed for free (and up to $15,000 managed free for your pals) and so on.
And then there are the more technologically advanced perks not available from your typical human adviser yet. Most interesting to me is that those investing $100,000 receive continuous tax-loss harvesting at no additional charge. Most advisers do that on an (at best) annual basis. By Wealthfront's calculations, that can amount to up to 1.4% of a portfolio's value per year in after-tax value for each client.
The firm touts that other such advances are in the offing, of course.
“We want to democratize access to sophisticated financial advice,” said Andy Rachleff, Wealthfront's chief executive. He and I spoke two weeks ago for the first time.
I remain interested in the direct channel because the pace of technological development among many of its startups is at the speed of light when compared to the glacial nature of the advisory technology industry. I have complained frequently about how fragmented and evolutionary (versus revolutionary) I have found the advisory technology arena since joining InvestmentNews six years ago.
While I have come to terms with the reasons behind this state of affairs, that understanding does not alleviate my fear of a poor long-term prognosis for advisers. Many of my sources commiserate and decry how constrained they feel, whether because of compliance oversight, massive legacy systems that defy being easily updated, or thanks to entrenched bureaucracies at the largest firms.
I found it ironic that Wealthfront in particular was getting traction among financial services professionals — and not because of Wealthfront's low cost or technology prowess.
“Around 70% of our clients are young professionals in the technology industry, and a much smaller but still significant number are from within the financial services industry and are investing due to conflicts,” Mr. Rachleff said.
Interestingly, the three largest concentrations of Wealthfront's customer base are from the Silicon Valley area, New York area and the DC area, due in no small measure to their concentrations of young tech talent. In fact, Mr. Rachleff pointed out that Wealthfront's more technical, engineering blog received more traction for the first few months of the startup's existence than did its mainstream blog.
The firm's platform is continuously updated too, not by the week or month but with upwards of 50 releases and improvements a day. It also boasts several academics and well-known experts in economics and investing among those making the decisions on where to invest.
“We believe we are the only company that combines world class expertise in both investing and software development and deliver it at a price that is affordable for everyone. We are a software-based financial adviser,” he said.
Among the academics is none other than Burton G. Malkiel, one of the progenitor's of the passive investing revolution, who joined the firm last year as chief investment officer.
So what is the point here? Advisers should stay aware of their computerized competition. It may never be able to match your own level of judgment or expertise, but is improving at a rapid rate and not likely to plateau anytime soon.
In other words it is getting better, more sophisticated and available for less than you are willing to accept in terms of account minimums.
Once the limited numbers of high-net-worth clients are spoken for by you or your human competitors and the mass affluent and mass market are spoken for by the machines, who will be left for you?
For advisers that want more detail on Prof. Malkeil's take on Wealthfront's investing philosophy and newer features in that regard check out his blog online.
For our related coverage of direct-channel technology startups check out these stories: