Betterment is an online investing resource that provides financial advisory and brokerage services. These services are customized based on an investor’s responses to a series of prompts relating to financial goals. Basically, you input your financial goals and planned contributions; then Betterment creates, implements, and manages a model portfolio on your behalf.
I opened a Betterment account as one of my investing experiments for the Grow Your Dough Throwdown. I opted to “Build Wealth” and as soon as I funded the account, my money was invested in a globally diversified portfolio of market-index ETFs.
Betterment invests your money in low-cost ETFs
According to its website, funds are selected with these characteristics in mind:
- expense ratio (administrative and management costs should be relatively low compared to actively managed funds)
- liquidity (there should be a ready market for the trading of these equities)
- tracking error (the ETF should perform similarly to the market index it seeks to replicate)
- potential market impact (Betterment strives to avoid impacting market movement with its volume of trades).
The firm encourages you to invest for a specific purpose and goal
The starting point for opening and funding an account is a goal-setting section. You can set goals in the following categories:
- Tax-advantaged retirement: Traditional IRA, Roth IRA, Rollover IRA
- Essentials: Safety Net, Build Wealth, Retirement (investments in a non-tax-advantaged account), Retirement Income
- Major Savings: House, Education, Other (any long-term goal you may have)
After making a selection, you’ll be prompted to be more specific about the goal; for example, you might specify that you want to invest in order to have enough in five years to buy a new car for $30,000. You’ll also indicate the amount that you can set aside right now, if any.
Betterment develops a recommendation that consists of 1) an asset allocation (mix of stocks and bonds) on a continuum of conservative to aggressive and 2) a monthly contribution that should allow you to reach that goal.
The firm provides a graphical representation on how much your money should grow under average and poor conditions, drawing on historical performance. If you’d like to tweak the path to your goal, you can adjust variables such as the stock/bond allocation, monthly automated deposit, one-time deposit, and time horizon, just in case reaching your goal takes more time than you originally envisioned.
Along the way, as you invest and monitor your holdings, the firm reports whether you are “on track” or “off track” according to its calculations (with exceptions such as when you are building wealth with no particular goal or time frame). In addition, the portfolio is re-balanced to maintain the ideal mix of stocks and bonds; dividends are reinvested; and advice is dispensed on methods to achieve goals by upping monthly contributions, increasing time horizons, or making a one-time deposit.
The site’s design is super easy to navigate, which makes investing easy also
After you’ve invested, you can manage your accounts and monitor activity from the dashboard. Here are the main sections:
- Summary, where you can view your individual and total account values at a glance plus see whether you are on or off track for reaching goals associated with each account
- Transfer, where you can initiate transfers to fund your investment accounts or withdraw money
- Portfolio, where you can peruse specific holdings and the allocation of “asset classes, markets, styles, and geographies” (such as U.S. small cap value stocks) within your account
- Performance, where you can compare the performance of your account with standard benchmarks, such as the S&P 500 (or more specifically, an ETF that tracks the S&P 500)
- Activity, where you can look at changes to your account, such as the addition of dividends (reinvested in the account), periodic adjustments for market changes, and advisory fees.
The fee structure is simple to understand
Fees are charged and collected in a way similar to a money management firm, which typically charge a percentage of assets under management or a flat fee or both. At Betterment, if you have a minimum balance of $10,000 or you make monthly automated deposits of $100 or more, you pay a percentage of the invested total that varies from .15% to .35%. However, if your minimum is less than that amount or you don’t make monthly deposits of at least $100, you’ll pay a flat fee of $3 per month. Fees are deducted from your account on a quarterly basis.
The appeal of Betterment is the ease of investing with the firm and the focus on goals
The biggest benefit to Betterment is its simplicity. You respond to a series of prompts and set up transfers, and your money is invested and portfolio re-balanced periodically with no further action on your part. Everything is easy to do and the dashboard is intuitive to use.
One of the appealing aspects of Betterment is that you can invest any amount. Most brokerages require a minimum investment of $500; if there is no minimum mandated by the brokerage, there is generally a minimum to get started in a mutual fund (often $500 for an IRA or $1,000 to $2,500 for a regular brokerage account) or a $50-100 minimum to buy a share of an ETF (depending on its per-share price).
Further, the money is put to work right away. At other brokerages, you open an account, fund the account, and then invest the money. At Betterment, your money is invested as soon as you fund the account. (Note: I transferred money to the account prior to the start of the investment challenge on January 1 but discovered that my money was invested as soon as funds were transferred.)
The firm’s philosophy of investing for goals is integrated into the user experience. The site is designed to encourage goal setting and portfolio segmentation based on goals that include specific dollar amounts and time horizons. In general, I like this approach though I believe that you can invest for its own sake, knowing that there will always be a use for your money. However, many people are more apt to save aggressively and invest if they have a specific purpose in mind for the money, such as a vacation home or retirement.
Financial advice from Betterment is customized, but not personalized
Betterment promotes the idea that its advice is customized. There’s a difference between customized and personalized. The customization that Betterment provides is automated based on your inputs, such as age and/or time horizon and investing goals. A personalized approach would more deeply involve you in the investing conversation, discuss matters such as goals and time horizons, consider outside holdings (such as the value and asset allocation of your 401k or other assets), unique risk tolerance, and personal preferences relating to investment holdings.
However, I should note that some financial professionals who claim to personalize advice and portfolios are simply providing a similar service, plugging your needs into a formula and delivering a portfolio. They may provide some hand-holding during rocky periods in the stock market but overall are giving you a prefabricated portfolio.
The services provided may or may not be worth the advisory fees
The firm also touts its dividend reinvestment and portfolio re-balancing services. Investors should note that dividend reinvestment is a standard service that typically involves checking a box when you open an investment account.
However, portfolio re-balancing is a service that often generates a fee, though investors can handle this task on their own at no cost (except for trading fees). For example, if you invest in a set portfolio by Fidelity, Schwab, or Vanguard, you’ll need to monitor allocations yourself and make adjustments. However, if you buy a managed portfolio from these or other firms, then the managers will handle re-balancing and similarly, fees will be charged for the portfolio services. Also, if you buy a target-date fund, re-balancing is included but you’ll likely pay above-average management fees.
The flat fee of $3 is somewhat steep whereas the percentages applied to balances are relatively low for a managed portfolio. In my case, because I simply invested $1,000 for my experiment, I am paying about $9 every quarter (with a discount for the first month because of a signup bonus). These fees have lowered my returns somewhat significantly. As of today (9/12/2014), my money has grown to $1,038.62, up 3.8% year-to-date; fees deducted total $15.19, lowering my return by 1.5%.
Keep in mind that the projections are illustrative, not predictive
Though I like the concept of goal-setting, the illustrations are somewhat misleading, if you don’t read the fine print about projections. However, such depictions of investment growth are commonly employed in the financial services advisory world.
To its credit, Betterment does offer some caveats to its statements, which every investor should read. You’ll find links to clarifying statements in links under “Planning Tools, Financial Advice,” and more. First, note that projections are based on historical performance, which do not predict future performance. And, as the firm acknowledges, “These projections do not guarantee investment performance.” Further, being “on track” means that there is a 50% and above likelihood that you will reach your goal target.
Betterment may be a good choice for the new investor or really busy person who needs help investing
If you are a new investor with just enough money to make $100 contributions monthly, then Betterment offers a super-easy way and relatively low-cost way to get started in investing.
If you are a more seasoned investor with little time to manage money and a larger portfolio of $10,000 and more, you may also like the simplicity of the Betterment method. You could readily create a diversified portfolio with commission-free ETFs on your own; but you would need to take the time to re-balance the portfolio periodically if you want to avoid advisory fees.
If you are looking for simplicity and understand the limitations of its projections, Betterment may be a great choice for you.