Wealthfront Review

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Wealthfront offers investment management services using automated methods that create and manage diversified portfolios for clients. Model portfolios are designed based on Modern Portfolio Theory and the efficient market hypothesis under the direction of financial experts that include Dr. Burton Malkiel, Princeton economist, Harvard MBA, and author of classic finance book A Random Walk Down Wall Street.

I find this SEC-registered investment advisory firm's services appealing because of its simplicity, relatively low fees consistent across all portfolio sizes (with the first $10,000 managed for free), tax-efficient investing methods, free portfolio rebalancing, and accommodation for investors in the process of selling investments in order to diversify their holdings.

Investment services offered by Wealthfront are targeted to the busy investor who wants to 1) develop a diversified portfolio; 2) save money on taxes through tax-loss harvesting; and 3) outsource day-to-day investing decisions.

Investment Management Explained

Wealthfront manages investments on its clients' behalf. The firm designs model portfolios and assigns one of those models to an account largely based on risk tolerance and the account type (tax-advantaged or regular investment account).

Specific investment management services include the investing of initial contributions, new deposits, and dividends in the portfolio; rebalancing to maintain appropriate asset allocation; and implementation of its tax-loss harvesting strategy. So, after making the decision to work with Wealthfront and responding to a short series of questions, an investor doesn't have to make any other investment moves.

Traditional investment advisory and management firms also perform these duties but the functions are not automated and may or may not include ETFs.

Inside the Wealthfront Portfolios

When an investor opens and funds an investment account with Wealthfront, money is invested in a diversified portfolio of low-cost, tax-efficient exchange-traded funds (ETFs) that represent U.S., foreign, and emerging market stocks; real estate investment trusts (REIT); U.S. corporate, municipal, and emerging market bonds; and commodities.

When I sampled the investment plan, these ETFs appeared in my portfolio:

  • Vanguard U.S. Total Stock Market Index ETF (VTI)
  • Vanguard FTSE Developed Market Index ETF (VEA)
  • Vanguard FTSE Emerging ETF (VWO)
  • Vanguard Dividend Appreciation ETF (VIG)
  • iShares National AMT-Free Muni Bond Index ETF (MUB)
  • iShares Corporate Bond Index ETF (LQD)
  • iShares JPMorgan Emerging Markets Bond (EMB)
  • Vanguard REIT Index Fund (VNQ)
  • iPath Bloomberg Commodity Index Total Return (DJP)

The firm favors Vanguard because of its low expense ratios. However, portfolios also include ETFs from iShares and iPath.

Note that a portfolio may also hold cash for a few reasons: 1) to ensure availability of cash for fees; 2) to implement purchase of full shares, not fractional shares (there may be a small amount of cash left over as a deposit may not be evenly divided among the cost of shares); and 3) to intentionally delay purchases of replacement ETFs for tax-loss harvesting purposes in compliance with IRS wash sale rules.

Wealthfront Minimums and Fees

You'll need to invest a minimum of $500 to open an account with Wealthfront. At first, the advisor required at least $5,000 but this amount was lowered in July 2015. According to the firm, the smaller amounts are trickier to invest so if an account falls in the sub-$5,000 category, the portfolio may differ slighly from the model ones.

The firm uses an easy-to-understand pricing model. The first $10,000 is managed for free. For accounts with more than $10,000, the charge is 0.25% of assets under management (AUM) for assets above that amount; for example, if an investor has $25,000 with the firm, then the annual fee is $37.50 ($25,000-$10,000 x 0.25% = $37.50),

There are no other fees, except those embedded in ETFs that all investors pay as a price of owning such funds. There are no commissions on trades or account management fees.

Tax Efficiency

Wealthfront employs several strategies to achieve tax efficiency. Portfolios contain ETFs that tend to carry fewer tax consequences than actively managed mutual funds, which often pass through distributions of capital gains.

Dividends from investments and additional deposits of money are applied to purchases of under-weighted asset classes and segments. This process minimizes buy-and-sell activities (and tax triggers) often associated with portfolio rebalancing.

Asset allocation varies based on whether an account is a regular taxable account or tax-advantaged retirement account. According to Malkiel, “the more tax-efficient asset classes are weighted more heavily in taxable accounts.” For example, because REIT dividends are taxed at ordinary tax rates, these types of ETFs are held only in retirement accounts.

Finally, the firm offers tax loss harvesting for all taxable portfolios. This technique involves selling ETFs that have declined in value, capturing losses for tax purposes, and then purchasing ETFs in a similar asset class and investment style to maintain the asset allocation of your portfolio.

Unique Features

There are a few noteworthy services offered by Wealthfront.

Wealthfront provides an “intelligent tax-minimization strategy” to allow clients to manage their tax situation while transitioning funds to a Wealthfront portfolio. For example, I can specify the amount of capital gains I'll accept on a yearly basis in order to control my overall income level, tax bracket, and capital gains taxes. Also, I can ensure that short-term holdings will be held for a full year so that I can avoid short-term capital gains taxes. This service may be especially useful for those who have company stock and want to transition to a diversified portfolio.

Those who have $100,000 or more in a taxable account with Wealthfront can invest directly in stocks contained in the S&P 500 or the S&P 1500. This approach is called Tax-Optimized Direct Investing and has the potential to save money through tax-loss harvesting of individual stocks, which is not possible through a single ETF that holds these stocks and by avoiding ETF-related expenses. And, if needed, investors can indicate stocks to exclude, such as company stock that they may not be allowed to trade during certain time periods. No trading fees are charged for this service.

The firm has also introduced Path, described as a “financial planning experience.” I can enter my information and get insight into how well my current savings may support my retirement. There are also ways to run “what if” scenarios. There's no extra charge for this service.

Getting Started with Wealthfront

Getting started with Wealthfront is fairly straightforward. I answered a series of prompts regarding my risk tolerance, age, income, and assets. Based on my responses, the firm rates my risk tolerance on a scale from 1 to 10 and recommends a portfolio suitable for either a taxable or retirement account (note that the recommendations are different depending on whether an account is tax-advantaged or not).

If I like the portfolio suggested, I can open my account by following the prompts. If I'm not satisfied, I can adjust my responses to the questions and receive a portfolio based on a different risk tolerance level.

I can open regular taxable individual, joint, trust, and LLC accounts; and traditional, Roth, and SEP IRAs, including 401(k) rollover accounts. 529 College Savings Plans are also available.

The portfolios are designed to reach the sweet spot of risk and reward, what investing gurus who adhere to Modern Portfolio Theory call the efficient frontier. That is, for a given risk level, the portfolio is designed to deliver the best possible rewards or investment returns.

Investors who engage Wealthfront pay the firm to manage their investments. The portfolios are presented “as is” and are not able to tweak the weightings (except by altering risk tolerance), which may annoy those who want to have more involvement while benefiting others who truly want a hands-off service.

 

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