Author: Matt

The Online Advisor for Silicon Valley Might Be Right For You – Wealthfront Review

Executive Summary of Wealthfront Updated for 2015

Wealthfront is an  online investment advisor that now manages over $1 billion in assets, hitting the mark in only two and half years. Their growth model was focused on young tech employees in Silicon Valley who had stock options and no knowledge of what to do with their wealth. They use ETFs to create a portfolio based on your risk profile and investment needs and then invest on your behalf. Their fees are a fraction of the price of a traditional brick-and-mortar investment advisor. By targeting their product to the high-tech subset of the general population, they have created something that everyone will appreciate. It is easy to use, intuitive, and very clean from a design standpoint. Their investment methodology is outstanding as well, as you would expect the best personal finance software to be. Wealthfront charges an advisory fee of 0.25%.

Overview of Methodology

Wealthfront utilizes Modern Portfolio Theory (“MPT”) to help investors create a personalized risk adjusted portfolio based on their investing horizon, appetite for risk, and portfolio size. Diversification and strict reallocation ensure that your money is utilized in the best way possible. This methodology is utilized by wealth advisors and investment professionals worldwide to provide the best possible return with the lowest desired risk. Their proprietary software will reallocate your portfolio to ensure that you maintain the needed balance to maximize returns. Their whitepaper on their investment methodology says:

“Prior to the launch of the Wealthfront Online Financial Advisor, it was not practical to offer MPT to everyone because delivering a complete solution was too complex. Specifically, the effort required to optimize an asset allocation, the identification of the ideal securities to represent each asset class and the identification of an individual’s true risk tolerance has been beyond the scope of free, web-based tools.”

Setting Up Your Wealthfront Portfolio

Setting up a portfolio with Wealthfront is a simple process.

Wealthfront Subjective Risk Tolerance Question

First, investors are asked a series of questions to test their risk tolerance from a subjective standpoint and from an objective standpoint. I was asked questions about what I would be willing to lose in certain situations as well as my age, after-tax income, and amount ready to invest. The former are the subjective risk tolerance questions and the latter are the objective risk tolerance questions.

Next, you are presented an Investing Plan that tells you what to invest in, the percentage of your total investment to allocate to a given security, and the dollar amount to spend on each investment. Wealthfront relies primarily on ETFs for investment. They do this to capture broad markets and also because the ETF expenses are lower than mutual fund expenses. The company does not receive compensation for recommending ETFs from specific companies. I find it reassuring that there is no additional commission coming to Wealthfront when I purchase the securities. Their recommendations are unbiased and based on a survey of thousands of ETFs. Know that if they recommend 10 Vanguard ETFs, it’s because those are the best available. Wealthfront requires that you have only $500 to invest, but their fee structure makes it very affordable for investors getting an early start on building wealth.


Wealthfront Advisory Fees

Wealthfront’s fee structure is easy to understand. They charge a monthly advisory fee based on an annual rate of 0.25% of assets under management during the month.

Here is an example provided by Wealthfront:

Jane invests $50,000 in a diversified portfolio on Wealthfront. Jane begins investing on April 5th and invests through the end of April, for a total of 26 days. Wealthfront’s annual fee rate is 0.25 percent. To simplify this example, we will assume that the net market value of Jane’s assets remains $50,000 for every day in the month of April. Therefore, Jane’s advisory fee for the month of April equals: (0.25% / 365) * (the net market value of managed assets greater than $25,000) for every day on which the assets were managed = (0.25% / 365) * $25,000 * 26 = $4.45.

How Much Are Wealthfront’s Brokerage Fees

In addition to their advisory fee, you’ll have to pay third party fees on the ETFs and broker commissions, which will vary for each customer. The ETF fee will probably be in the 0.15% – 0.20% per year range and the commissions are not fully disclosed but in the sample portfolio that I put together, Wealthfront estimated that the commissions would be $1.12 on a $15,000 investment, $3.20 on a $50,000 investment, and $7.56 on a $100,000 investment. Very nominal commissions. You’ll pay additional broker commissions when Wealthfront rebalances your portfolio. The rebalancing is an automatic process that ensures that you maintain the correct investment mix. Your portfolio will naturally drift from the optimal balance as certain indexes and markets out perform others. Studies show that rebalancing could add up to 0.4% per year over ten years. Wealthfront also considers the tax implications and commission costs when rebalancing.

Is Wealthfront a Broker?

Wealthfront utilizes a company called Apex Clearing Corporation as its brokerage partner. You are the only one who can deposit or withdraw money into your account (except for the advisory fee charge).

After opening the account, you will purchase the securities. You can also start an IRA (Traditional, Roth, or SEP) or rollover your 401k. The focus for Wealthfront is simplifying the investment process. They do it very well.

Should I Open An Account With Wealthfront?

I highly recommend Wealthfront. It’s easy to use and has a great team of advisors. Whether you are starting on your personal financial journey, or well on your way, you’ll enjoy Wealthfront’s low fees and great service. This should appeal to anyone looking for a DIY approach to financial management. Wealthfront is ready to replace your financial adviser’s high fees with world-class financial management for a fraction of the cost. Wealthfront might not be right for you if you are looking for more hand-holding or want to speak with a traditional advisor. While you can pull your Wealthfront account information into Mint, Wealthfront does not take into account investments in outside 401k plans or IRAs.

Wealthfront vs Personal Capital

Wealthfront is different from Personal Capital in that you don’t have an individual advisor assigned to you. Furthermore, Personal Capital allows you to see all of your accounts in one place so if you have a few different IRAs and 401k plans, you may want to look at Personal Capital. The other difference is in the fees. Wealthfront is 0.25% whereas Personal Capital has a graduated scale and your first $1 million is 0.89%. If you need more hand-holding, go with Personal Capital (see my full review here).

The Surprising Reason You May Want To Pay More Interest

In our consumption society, is it any wonder that the average American has about $15,000 in credit card debt? Nearly everything we buy is designed to fall apart so we are re-consuming many of the same things over and over. Credit is essential for a robust economy and provides financial stability for our country, however there’s a cost to living this way as well. There’s an actual economic transfer from cash payers to card payers as well as a psychological cost to those who burden themselves with debt. The psychology of debt is interesting.

Most credit card companies are preying on our innate desire to show off and prove our worth and value.

Debt is simultaneously the great facilitator of wealth and the great underminer of personal finance. It’s very difficult for the average person to measure the real cost of purchasing with debt when the credit is easy to get. There’s a great little spot in the Bible where Jesus says, My yoke is easy and my burden is light. The implication is that by serving others, loving our neighbor, and following his teachings, we’ll find peace. Our consumer based society pushes the opposite reality of a place where the things you have matter most. Consumer debt (mostly credit cards) is the machine that generates the consumption and it creates a heavy, heavy burden that is very difficult to remove.

Getting out of Debt

1. Simply your life by cutting up your credit cards and consolidating your bank accounts. Cancel your accounts if you want. In the long run your credit will be better off. You will feel better and the fewer choices will be a relief to your overburdened mind. It’s the Paradox of Choice in credit card form.

2.  Figure out how much you owe. How do you find out how much you owe? You have two options: Paper or electronic.  You can pull out the paper copy of your latest credit card statement, student loan statement, etc. and list the unpaid balance from the top of the statement. The interest rate is going to be on the second page.

3. List it all in one place. I really like the debt calculator spreadsheet from Vertex. Here’s a sample on Dropbox that you can see what it is supposed to look like. I like this spreadsheet because it gives you a few important options related to which debts you pay-off first.

4. List debts by smallest balance first. This is called the “Debt Snowball” means you pay off your debts from the smallest balance to the largest balance and include the monthly payment for each debt into the next largest debt’s payment.  This is also known as The Dave Ramsey method and it drives financial people crazy because it costs you more over the long run. So why recommend it? It has been proven to help pay off debt faster due to the psychological benefits that come from small wins and small progress.  David Gil and Blakely McShane from the Kellogg School of Business explain:

“The idea is that starting small “could motivate you, because you check something off your list. It can make you think that you potentially have it in you to complete the whole list. `Hey, I’ve achieved this! I wasn’t sure whether I could do it, but I’ve got one of these items, so maybe I can.’

That suggests that just having some small task to tackle early on might motivate you to get started. From a rational perspective, you should always pay the higher interest balances first. And that’s what people have recommended in the past. But what we’re saying is, there’s another factor to consider.”

Your other alternative is to list debts by interest rates. Put the highest rates first and pay them down first. This is the Debt Avalanche and from an economic sense it is the best way to pay off your debts.

5. Start tracking your spending. Personal Capital did a study and found that spending went down on average by 15.7% for those who download and used the Personal Capital financial app. Keep in mind, this isn’t budgeting, which most of us hate. It’s just tracking your spending. Again, there’s a psychological affect at play here where merely monitoring expenditures tends to keep you from spending more than you normally would. It makes sense seeing how must of us spend so much time looking at our phones.

6. Start cutting costs. Everything should be on the table here. Your personal finance grandpa, Dave Ramsey, says that your family should eat beans and rice until you’re out of debt. Early retirement guru and personal finance extremist Mr. Money Mustache calls it an emergency and wants you to put off everything until it’s gone. Either way, you have to cut costs and make significant sacrifices or you’ll never get there. Until you take it seriously and get your spouse on board, it just won’t happen.

Once you are out of debt, it’s time to tackle a host of new opportunities, but there’s no sense in trying to skip step 1. If you take the steps above but can’t stop spending and your debt keeps mounting, it’s time to get serious help. As in talk to your doctor or psychologist. This modern world has entrapped you and it’s time for serious help.