“Wealthfront reached its first $1 billion in assets in less than half the time it took Schwab. We hope that by focusing on Millennials the way Schwab focused on Baby Boomers, we can continue our rapid growth to $10 billion, $100 billion, and beyond.”– Adam Nash, CEO, Wealthfront

In a blog post announcing that Wealthfront had reached the $1-billion-AUM milestone last year, CEO Adam Nash hailed his company as the new Charles Schwab.  His claim was based on Schwab requiring six years to hit the $1 billion mark, while his firm achieved the same feat in only two and a half years.

At the end of December, after just three years in business, they passed the $1.7 billion mark.  These are impressive numbers that any new registered investment advisory (RIA) firm would be pleased to report.

But Wealthfront is not just any RIA firm.

It was one of the first movers and has broken away from the pack in AUM growth along with Betterment and Personal Capital among the stand-alone robo-advisor firms.

Wealthfront’s performance has been impressive, but Nash is comparing his firm’s performance to Charles Schwab, the company that revolutionized individual investing.

Here is the chart that Nash posted on the company’s blog showing their performance relative to Schwab:

 

Figure 1 – AUM Growth, Year 0 to 6

Based on Nash’s data, Wealthfront races past Schwab’s accumulation in a ridiculously short amount of time. Only two other stand-alone robo-advisor has reached this threshold so far; Betterment and Personal Capital. (Vanguard’s robo offering has over $4 billion in assets, but they also have the Vanguard name and record behind them).

Attracting $1 billion in assets from thousands of very small accounts is no simple task.  But if you’re going to compare yourself to one of the greatest success stories in financial services, you better have the numbers to back up your claims.

As it turns out, Wealthfront doesn’t quite have the numbers.

It’s All About The Hype

Computer-managed investment management programs, christened by the media as robo-advisors, continue to grow in popularity, but they still have a long way to go before their value proposition justifies the hype.

Robo-advisory services usually rely on computerized investment management processes and a limited selection of low-cost ETF index funds.  This allows them to charge very low fees — usually 0.1% to 0.3% of assets per year.  Compared to human advisors, who generally charge annual management fees over 1.0%, the cost-advantage of robos becomes clear.

According to research and consulting firm Corporate Insight, robo-advisor platforms amassed around $19 billion in assets by the end of 2014.  These algorithm-driven investment applications have been effective in penetrating the Millennial market and inspired industry heavyweights like Charles Schwab, TD Ameritrade, Fidelity and Vanguard to launch their own low-cost online platforms.

Yet the current robo asset base represents just a small fraction of the multi-trillion-dollar-managed-asset pie.  Automated platforms have benefitted from the macro environment of a financial services industry that has already been internally disrupted and is in a state of flux.

Despite their minuscule market share, the artificial-intelligence-investment space has been fertile ground for venture capital funding.  Betterment is the most recent beneficiary, having closed a $60 million round just this month.

 

Wealthfront’s success in raking in the VC cash probably has something to do with Nash’s boasting.  Even assuming that his backers are patient when it comes to profits, he must still be under pressure to show that his firm is pulling away from the pack when it comes to AUM.  The $1 billion threshold was a fantastic public relations win.  It’s a number that sounds impressive, even more so considering the service was just launched in December 2011.

But their record appears to be lacking when compared to what Charles Schwab managed to achieve back when Disco was still king of the dance floor.

Inflation Can Bring You Down

Which movie is number one in all-time domestic box office gross?  If you guessed Titanic you would be wrong.  If you guessed Avatar you would also be wrong.

The answer is Gone with the Wind, which was released back in 1939.  That year it generated a shade under $200 million in tickets sales.  That wouldn’t even put it into the top 10 of 2014 movies.  How could it be the number one grossing film of all time?

One word: Inflation.

When adjusted for the inflation in ticket prices over the past 76 years, Gone with the Wind‘s gross is almost $1.7 trillion in 2014 dollars.

That is how you make an apples to apples comparison to financial or economic data.

Since 1981, when Schwab reached their milestone, inflation has averaged around 3% a year, for a total of 170%.  The $1 billion in assets that Schwab achieved 34 years ago becomes a whopping $2.6 billion when converted into 2014 dollars.[1]

After 25 months, with $1 billion in AUM, Wealthfront was only 35% of the way towards matching Schwab’s inflation-adjusted record of success.

I created my own chart where I converted Wealthfront’s AUM into 1981 dollars.  Their $1 billion in 2014 dollars gets reduced to just $384 million.  After 2 ½ years it doesn’t look as impressive when inflation is factored in:

Figure 2 – Wealthfront Total AUM, Years 0 to 2.5, in 1981 Dollars

Fortunately, they did have an incredible run in the second half of last year, gathering an additional $700 million in assets.  That’s a 70% increase in just six months!

But they’re still not even two-thirds of the way to Schwab’s total, as you can see from the following chart.

Figure 3 – Wealthfront Total AUM, Years 0 to 3, in 1981 Dollars

Demographics Can Be a Double-Edged Sword

Some analysts have pointed to Wealthfront’s strategy of concentrating on Millennials as a potential flaw. Most independent sources agree that there are around 80 million Millennials, which is more than either Baby Boomers or Generation X.  According to Nash, 60% of their clients are under 35 years of age and he often touts the number of Millennials as a primary factor driving his company’s future success.

Expectedly, the average wealth of Millennials is much lower than older demographic groups.  According to the Federal Reserve’s Survey of Consumer Finances, the average Millennial has a net worth of just $10,400.

Even worse, only 15% of Millennials have household incomes of over $100,000.  This number will certainly increase over time as Millennials see their salaries rise and they begin to raise their savings rate.

And their savings rate may increase faster than it did for Baby Boomers.  A large percentage of the VC cash piling into automated advisory platforms will be used for advertising.  Millennials are already being targeted with a series of well-funded educational campaigns, all designed to teach them the benefits of investing.

The rate that Baby Boomers invested did not begin to take off until the early 1980’s, when the leading edge of Boomers turned 35.  We may see this number drop to 30 or even 25 for Millennials, leading to another bull market in the near future.

Every wealth management firm will be launching their own online platform to grab a share of the coming wave of investor dollars.

Will the startup robo-advisors be able to compete against RIA custodian firms such as Schwab, TD Ameritrade and Pershing when they launch their own online advisor channels?  Wirehouses also are setting up units to targets smaller accounts such as Bank of America’s Merrill Lynch Edge program.  Mutual fund giant Vanguard already has the most successful hybrid robo-program with their Vanguard Personal Advisor Services (VPAS), which has gathered $4.2 billion in AUM in less than two years.

That is more than double the assets of any of the next three largest robo competitors.

If anyone can claim the mantle of being the “Next Charles Schwab” of the online advisory space, it’s VPAS.  They blew past Schwab’s 1981 $1 billion sometime around 3Q 2013.  Eat your heart out Adam Nash!

If Vanguard can leverage their brand, huge technical staff and customer contact list to grab this kind of AUM in such a short time, what will Schwab be able to do when they launch their robo offering?  And when Pershing, Fidelity and TD Ameritrade follow suite, what will be left for the stand-alone robo firms except the table scraps?

Robo-advisor platforms will continue to change the way people invest and prepare for retirement.  These technology-heavy startups will continue to scale and exert downward pressure on human advisor margins and their value proposition.

Recent data suggests that automated advisory platforms will continue to seize larger shares of Millennial’s estimated $2-trillion-net-worth, which is projected to grow to $7 trillion by 2018.  What remains to be seen is if established wealth management providers can successfully leverage their economies of scale and other advantages to submerge their VC-backed competition.

*Tim Lloyd contributed to this article.    

[1] According to the Unites States Department of Labor, Bureau of Labor Statistics, CPI Inflation Calculator