Over the past decade, technology and automation have disrupted many industries, from automotives to manufacturing. Recently, it has made its presence known in the wealth management industry, with the rise of automated money management. Allow me to introduce automated money management (AMM), an industry on the cutting edge of financial planning and the future. AMM is regarded as an excellent way to take the stress out of managing personal finances, and also provides an easy option to practice financial responsibility.
AMM can be thought of as a machine that has multiple gears. When all of these gears work correctly, they operate a machine that creates digital wealth management.
One such gear is digital banking. AMM can handle many of the tasks that would traditionally be taken care of in a physical bank branch, such as withdrawing or depositing money. A good example of this would be digitally depositing checks through pictures.
A second gear is digital savings, in which part of your paycheck is automatically allocated to a savings account. This helps people prioritize savings if they are having trouble managing their purchases.
The final gear of AMM would be automated investing. This is perhaps the biggest selling point of AMM, because it allows you to invest in assets without picking them out for yourself. Automated investing is a gamechanger for wealth management. It allows people who previously didn’t know how to, or didn’t have the time to invest in assets like stocks or bonds.
Now that you know its components, here is a breakdown of a potential pathway used by AMM.
- You receive your paycheck. Upon receival of your paycheck, your money goes two routes.
- The first place is to pay off personal expenditures such as utility bills, rent, and other expenses that require renewal payments.
- The second place your money goes is into short and long term savings and investment accounts. These can include retirement plans such as a 401(k), investment funds, and savings accounts.
- Any money leftover is now up to you to spend — your discretionary income.
The Alternatives to AMM
The main alternative to AMM is through managing your expenses, savings, and investments by hand. For many, this process can be time consuming and hard to grasp. However, it comes with its benefits. Especially for beginners, understanding where your money goes and how to manage its distribution is a valuable skill for future financial success.
Another alternative to AMM is to hire a private wealth advisor. However, this option is really not feasible for the majority of people. Private wealth advisors are typically most useful for individuals with a high net-worth, and deal with larger scale investment opportunities. Therefore, they would simply be ineffective for the type of financial help that AMM provides.
The Benefits of AMM
The primary benefit of AMM is that it allows its users to prioritize saving over spending. This is most helpful for people looking to start and/or reinforce positive habits regarding financial planning. It makes sure that you are properly preparing for a successful future, and holds you accountable to responsible financial decisions.
Furthermore, AMM saves you lots of time. More specifically, AMM puts your money to work with virtually no downtime — something that is extremely valuable from the perspective that time is money. The faster you can put your money to work, the faster you can experience returns.
And perhaps the most obvious of all benefits, AMM can save you from the stress and effort of managing your finances by hand. For people with busy schedules and don’t have the time to properly manage investments, AMM can be incredibly valuable.
The Drawbacks of AMM
In a counterintuitive sense, AMM requires a considerable amount of micromanagement. Although we have discussed how AMM can save you time, it does not mean that AMM can be set up and simply forgotten about. Losing track of your automated finances can potentially be costly. Think back to the automated subscription example. If you forget that your subscription automatically renews each month, then you could potentially be wasting large sums of money without your knowledge. This applies to other aspects of AMM, such as bills and other expenses.
Another drawback to AMM is that it can limit the growth of your wealth. The automated nature of investments in AMM means that its investments will typically be low risk and low reward in the form of ETFs. Actively managing investments and seeking out new opportunities can be a much faster way to build wealth, in which you can practice risk management and experience much higher returns on investments.
As an industry, AMM is growing rapidly. Its growth over the last decade has been accelerated by society’s increased reliance on and advancements in technology. Both of these factors allow AMM to exist today where it did not in the past. Here are some of the companies at the forefront of this movement.
Among industry leaders is Wealthfront, a service tailored to managing personal finances the likes of which the world has never seen before. Wealthfront has been at the forefront of the automated wealth management industry because of its ease of use and access to multiple economic classes. With around $20 billion assets under management (AUM), this company has carved out a significant portion of the industry. The primary draw to Wealthfront is the wide variety of portfolio options it offers. Wealthfront offers investment plans for education, retirement, and everything in between. This flexibility allows Wealthfront to attract a variety of users over a wide age range. This makes Wealthfront a sterling example of how companies are making money management services accessible to a broader audience.
Another leader in AMM is Betterment. Similar to Wealthfront, Betterment is designed to provide AMM easy accessibility for many people. With $22 billion AUM and over 500,000 users, Betterment is another top contender in the industry. Betterment offers free financial planning tools and guides its users towards goals that promote financial success. Additionally, it offers customization options for its portfolios that allow the user to have a choice in how their portfolio is managed. Want to solely outperform the market? There’s an option for that. Want to invest in companies that take their environmental impact seriously? Betterment has you covered. These options are what make Betterment one of the leaders in the AMM industry. The customization and control it provides to the user, all while maintaining solid returns, make Betterment a great example of the direction that AMM is taking to provide its users with convenience and financial success.
The Backend of Automated Money Management
While earlier we discussed how AMM works on the user side, we should also learn how it works from the company’s side. AMM’s success is predicated on two factors. First, is returns that outpace traditional savings accounts. Second, is air-tight risk management. If either one of these factors is unmet, then AMM fails to accomplish its primary purpose, which is assisting in financial success. But how do companies satisfy these factors?
The answer lies in Modern Portfolio Theory (MPT). MPT is a method of creating a portfolio so that the expected return is maximized given a certain level of risk tolerance. Companies design algorithms in alignment with MPT so that they can manage money for investors digitally, yet also personally. As stated above, industry leaders for AMM will often give the user a choice in terms of how much risk they are willing to take.
As part of managing risk, the algorithms used in AMM primarily select ETFs as investments. In certain cases in which the value of the portfolio is above a certain threshold, these algorithms may select mutual funds or bonds. However for the majority of people, ETFs will be the assets selected. There are a couple reasons for this. First off, ETFs are incredibly diverse. This means that given a sector failure, losses are minimized for the investor. Secondly, ETFs give investors a lower barrier to entry for high profile investments, perfect for AMM which deals with portfolios with smaller values. Thirdly, ETFs are much less volatile than stocks, meaning that they are better for predictable returns and minimized risk.
The Future of Money Management
With the direction that society and technology are moving, AMM appears to be the future of managing personal investments and finances. As better tools are created and become more accessible to more people, AMM will become integral in many people’s lives. However, it’s critical that AMM be regarded as a tool for money management, not a full on substitute for financial planning. Failure to do so will lead to results that epitomize the opposite of what AMM is supposed to promote: financial responsibility in the present for financial success in the future.