“Set it and forget it” mobile apps are a great way to dip your toe into the stock market, until you read the fine print.
Recently, micro-investing has taken off as young investors sign up for “set it and forget it” apps. These apps have generated buzz and panic in the financial services industry. Last month, they attracted the scrutiny of JP Morgan’s CEO, Jamie Dimon (so they must be doing something right.) They claim to democratize the investment industry by allowing young people to “invest with $5” or “invest the change” from their purchases into a portfolio of exchange traded funds, or ETFs.
Low Balances, High Fees
In practice, small-time micro investors pay more than double the fees of traditional investment vehicles. There may be no account minimum, but the smaller account holders get ripped off in the end. How is this? For small accounts, micro-investing apps charge a flat $1.00 per month for their service, which doesn’t sound like much to an inexperienced investor. However, for an account with just a few hundred dollars in assets, $12 per year amounts to a 4% fee, a higher percentage fee than most financial advisors or even hedge funds.
Over five years, if a budding investor deposits $50 each month into a micro-investing app, the monthly $1.00 fee will eat up 12% of their returns, compared to an ETF portfolio from a traditional brokerage. Depositing less than $50 each month? That monthly buck will swallow even more of your potential returns.
Hate fees? Try DIY
If you have an account balance around $2,500, $1.00 per month only amounts to a fee of .5%. However, at that point you have enough investable assets to open an account at a traditional brokerage. Then, you can construct your own portfolio of diversified ETFs for free. You’ll also have access to research & education tools, real humans to call or email, and you’ll learn how to research your holdings for a lifetime of responsible investing. Essentially, if you have enough assets to make a $1 monthly fee sound reasonable, then you have enough to invest through a reputable broker who can help you achieve your financial goals.
With a Fidelity brokerage account, clients can trade iShares ETFs commission-free. Open a Fidelity account, use iShares’ free portfolio generator, and you’ve got a portfolio of $ITOT, $IXUS, $IUSB, and $IAGG without paying a penny in fees. Similarly, TD Ameritrade offers over 100 commission-free ETFs from SPDRs, Vanguard and more. Go to Vanguard’s ETF recommendation engine and you can build an ETF portfolio with the lowest expense-ratios on the market, at no commission from TD.
The Future of Micro-investing
Charging high fees for low balances is unfair at best, and predatory at worst. Still, micro-investing products have done an excellent job getting young people “over the hump” and making their first investment. Rebuilding trust with this generation, who grew up during the financial crisis, is nothing to scoff at, and neither is a user-friendly mobile interface.
Traditional brokers should mimic what micro-investing apps have done right, as many of them already did with robo-advisors last year. By adding micro-investing solutions to their more profitable wealth management offerings, incumbent brokers can gain loyal young customers today. When these customers develop more complicated needs, their brokers will inherit a massive cross-sell opportunity.