Robo Investing firms trumpet the virtues of passive investing. But in order to buy the market, one first has to define the market – and the definitions one chooses are where the action is. Today, we’ll take a look the active portfolio choices (market definitions or asset choices; wink, wink) made by robo giants, Wealthfront and Betterment.

Lessons From LEGOs

In order to invest in “the” market, we’d need a single vehicle (e.g., an ETF) whose portfolio includes all investable assets (stocks, fixed income, derivatives) throughout the world. There are ETFs that represent pieces of the whole pie, but none come close to really representing all of it. So the best anyone can do is define a set of ETFs that will represent one’s own personally designed custom market.

Envision ETFs used by robo-investing firms as LEGO blocks. Much of their success or lack thereof in serving their clients will depend on the choices they make regarding the kind of structure (“market”) each cobbles together using whichever blocks catch its fancy.

Comparing Two Robo Market Constructions

My last post contained some detail on how Wealthfront made its choices, and from what I can see Bettement seems to have gone through a very similar process. Tables 1 and 2 show how each firm constructed its market as pertains to standard and IRA accounts respectively. (In each case, these choices are for a slightly conservative mainstream risk profile that rates 4 out of 10 based on Wealthfront’s scale).

Table 1 – Standard

Asset Class ETF Proxy % Allocations Wealthfront Betterment * US EQUITIES U.S. Total Equities Vanguard VTI 30 16.52 U.S. Large Cap Value Equities Vanguard VTV   16.52 U.S. Mid Cap Value Equities Vanguard VOE   5.36 U.S. Small Cap Value Equities Vanguard VBR   4.61 U.S. Dividend Stocks Vanguard VIG 7   FOREIGN EQUITIES Developed Markets Vanguard VEA 13 13.00 Emerging Markets Vanguard VWO 9 9.00 US FIXED INCOME Municipal Bonds iShares MUB 35 20.67 Inflation Protected Bonds Vanguard VTIP   0.16 Corporate Bonds iShares LQD   2.03 U.S. High Quality Bonds Vanguard BND     FOREIGN FIXED INCOME International Bonds Vanguard BNDX   7.73 Emerging Markets Bonds Vanguard VWOB   4.40 NATURAL RESOURCES Natural Resources State Street XLE 6  

* My estimate of allocations based on Wealthfront’s allocation protocol

Table 2 – IRA

Asset Class ETF Proxy % Allocations Wealthfront Betterment* US EQUITIES U.S. Total Equities Vanguard VTI 18 14.96 U.S. Large Cap Value Equities Vanguard VTV   14.96 U.S. Mid Cap Value Equities Vanguard VOE   4.86 U.S. Small Cap Value Equities Vanguard VBR   4.22 U.S. Dividend Stocks Vanguard VIG 15   FOREIGN EQUITIES Developed Markets Vanguard VEA 12 12.00 Emerging Markets Vanguard VWO 8 8.00 US FIXED INCOME Municipal Bonds iShares MUB     Corporate Bonds iShares LQD 31 7.15 U.S. High Quality Bonds Vanguard BND   14.72 FOREIGN FIXED INCOME International Bonds Vanguard BNDX   13.77 Emerging Markets Bonds Vanguard VWOB   5.36 Emerging Markets Bonds iShares EMB 10   REAL ESTATE Real Estate Vanguard VNQ 6  

* My estimate of allocations based on Wealthfront’s allocation protocol