#PaisaVaisa Podcast 2: What are Robo-advisors and why should I pick one?

This is the second of a three-part series where popular podcast host and blogger, Anupam Gupta and Kunal Bajaj, Founder & CEO, Clearfunds talk about robo-advisors and it’s importance in personal finance.

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Anupam Gupta: Welcome back! We’re now going to discuss what exactly is robo-advisory and how is that different from a distributor or an advisor and how exactly does it work?

Kunal Bajaj: Who is the best person to give you financial advice? Your broker, your relationship manager at the bank, your financial planner?

Well, have you considered that it might not be a human being after all? It’s only natural for us to rely on human beings for advice. They can hand-hold us through our decisions, it’s what we’re used to.

But what a computer can do, is take a lot of emotion out of the investing, and that’s a good thing. That’s why the world’s largest investment firms — Bridgewater, Goldman Sachs, Citibank — use computers to manage their money. And if the geniuses at these banks make decisions which are back-tested rigorously, monitored for how efficient they are, why shouldn’t you? And that’s what a robo-advisor does. A computer digs through millions of data-points, designs an algorithm to help arrive at the right investment decision, makes the entire investment process as seamless and easy as possible, so you don’t need to think about the process. We believe, at Clearfunds, that this technology is the technology of the future.

Anupam: Okay, so how does this work? Do you give the entire financial advice on purely mutual funds, like “I have woken up today and I want to start investing.” And then I login to clearfunds.com?

Kunal: We think that mutual funds are the right investment for most people. The risks in the single stock investing are certainly a lot more than buying mutual funds. Remember that for most people, buying a mutual fund automatically adds diversification, which gives away a little bit of the upside, but it tends to smoothen the ride when you’re there for the long term.

Anupam: So, for someone who is going to invest for the first time you should go for the mutual funds instead of buying stocks or any other investment directly, like you said? Lets ay you are interested in equities, for example, you wouldn’t really know if you want to buy Reliance or HDFC bank today, but the mutual fund manager would.

Kunal: Absolutely. It’s the Fund Manager’s full-time job, right? And if you start with a small amount, you know –Rs. 1,000 or even Rs. 50,000 — when you’re buying a single share you need to figure out the price of the share and you realize HDFC bank is trading at Rs. 1,700 and I can’t buy half a share of it, right? A mutual fund helps you get that diversification straight up — you can start with an amount as low as Rs. 500 with a SIP and Rs. 5,000 for most one-time investments.

We set up your account in seconds…

Anupam: Great! What next? I’ve decided that I want to go for mutual funds and I login to your website. Now?

Kunal: The first thing we do is an online check of your KYC — check if you are KYC verified. We actually take you through the process in seconds, because we have access to all your details at the KYC registration authority. We ask only for your cheque details because we need to make sure you’re investing from an account that belongs to you. Because when you sell your investment, the money needs to go back to your account and not someone else’s. And that’s it!

You come on the website, you can choose our recommended funds and we also we give you all of Morningstar’s ratings, so you can access all the star rated funds. We give you both options because we are not arrogant enough to believe that we are the only provider of information out there.

So, you can take our recommended funds or Morningstar’s recommended funds, add that to your shopping cart — check out and you’re done! It’s exactly like your Amazon.in experience.

Guess what, we make sure we follow the transaction to its completion. We make sure you get all your tax statements at the end of the year, and give you whatever transaction history you might need for you tax filings.

In a sense what we are saying is, we’re a marketplace where you can do a one-time registration, get all the advice you need, complete the transaction, and then get all the reports you need.

Why should you think about a robo-advisor?

Anupam: Okay, so if I have got this right, I am an investor who knows what I want to buy, XYZ mutual fund which is a mid-cap fund an income plan or whatever it is — I am very clear about what I want to buy. I just don’t want to go to ten different mutual fund websites, sit and figure out where am I going to buy from. I just go to Clearfunds, choose whatever I want, or pick the top rated funds as per Morningstar and just buy it. And all that takes me what — two minutes?

Kunal: Absolutely. So, you know, the reason why we’re doing this and the reason why you should think about a robo-advisor is a couple of things — firstly, a good advisor is hard to find. When you do find one, you often find that you’re being pushed into a product that’s not right for you. This could be a distributor that you’ve dealt with or an advisor you’ve dealt with. It could also be a relationship manager at the bank who doesn’t have a long-term relationship with you. He or she is there at the bank branch that you deal with for the next two years, then he’s gone!

Anupam: I know. And my experience with them — “Sir, I am in training, I am in meeting”. I get that the business is just not big enough for them. And they’re probably pushing a product which has more commissions for them. Whereas there’s no issue of conflict of any interest with you.

That four letter word — fees.

Kunal: Totally. There is that four-letter word in finance that no one likes to talk about — starts with an F — and it is F*E*E*S.

When was the last time your advisor clearly told you how much his services cost?

Anupam: They haven’t. Not at least for a long time.

Kunal: And this is money you have worked hard to save. This is money that is already yours. This is the money that they’re eating 1% of each year. Most people like to think of this 1% as 1/100, you know, “So what if I pay 1%? He’s giving me advice.”

But I don’t think the math actually works that way. If you’re earning, let’s say, 8% a year on your investments giving away 1 out of that 8 each year to your advisor and 1/8th is 12.5%. Have you ever heard of any transaction that you do where you pay 12.5% brokerage every single year, year after year.

That’s what you’re paying in fees, and that’s what we are looking to educate people about and tell them- Look, this is just too expensive.

There is a better way, the better way probably involves you going online because we can reduce all of the transaction fees. We can take away all of the human elements that are involved in completing your transaction — the form filling, the picking up of your cheque, the dropping it off — all of which costs money. If we can automate all of this and deliver our service to you at a really low cost it basically means more money for you and for your family.

Flat-fee, not fat-fee pricing.

Anupam: So, what’s the business model? How much do you charge me if I come to your platform and say “Listen, help me start investing?

Kunal: We work on a simple principle, where we charge a flat-fee not a fat-fee.

Our flat fee is a flat rate of Rs. 199 every purchase decision — whenever you buy a mutual fund or make an additional purchase into a mutual fund, we charge you Rs. 199. Every time you start an SIP, we charge you Rs. 199. That includes the entire transaction.

We don’t care if you have an investment of Rs. 10,000 or Rs. 1 crore (and we have a bunch of customers who have invested that large amount). Your investment is ultimately just a bunch of ones and zeros passing through our system. We’re taking the money from your bank digitally, we’re transferring the money to the mutual fund company digitally, we’re taking confirmations from the mutual fund companies digitally, and delivering that to you digitally. How does it matter how many zeros there are in that number? So we charge you a flat fee of Rs. 199 per transaction and that’s it. So there’s more for the customer and his family!

Anupam: So when I buy a mutual fund from you, I am investing in a direct plan, not in a regular plan. So I get a much better NAV, straight up.

Kunal: As a founding principle, we don’t sell regular plans. Because a regular plan ultimately means that there’s less for the customer, over time. I think selling a regular plan also introduces some element of bias. A seller — whether you call it a bank or a distributor, — will gravitate towards the product that gives them the most commission. We don’t make any money from the mutual fund companies. The only fees we ever earn is from the customer. And that’s why we decided to do this — the only way we could demonstrate transparency was to say we only do direct mutual funds.

Anupam: And because you do not get any money from the mutual fund company, there is no reason you would push a certain mutual fund over the other.

Kunal: Absolutely. We’re completely agnostic. Our recommendation model, which is reviewed by us on a regular basis, it’s a computer model. It’s aggressively back tested, but it is reviewed by human being that looks at it and makes sure it’s in the customer’s interest. We’re trying to get the best returns with low volatility so that people stay invested for as long as possible.

Anupam: And you’ve got equity and debt, I am assuming.

Kunal: We have a bunch of equity recommendations; debt recommendations are coming up in the next couple of weeks. Customers are now asking us for portfolio recommendations. Someone comes in and says, “I am 25 years old. This is my income. These are my dependents and so on. I don’t know what I need. Can you recommend an investment portfolio to me?” So that’s what we’re working on right now and we’ll have that out pretty soon.

Anupam: That sounds exciting because the kind of questions that I get on this show and the customers are like “Just handle this money for me. I just don’t have the kind of time to figure out I want to put in this mid-cap, that large-cap, this income, that government gilt fund.” So if you guys can work something out on that, it might be good for a lot of people.

Kunal: Thank you. That’s what is consuming us right now and we’re working on that in the next few weeks, like I said — we should have that soon..

Anupam: That wraps up the second of the three-part series of Paisa Vaisa with Kunal Bajaj of Clearfunds. Stay tuned for episode three.