Talking Recipes with a Master Chef

episode is gonna be a little bit about recipes. Oh god, all right, you can't eat yet, okay, but three hours to launche Let me have some food. But joining us today is a guy named Dan Egan who works at Betterment. Betterment, Eric, you know a lot about this is a robot advisory. So robo advisors they use ETFs to build portfolios. And what they do is they get you know, they ask you a couple of questions, you fill it out, they determine your risk tolerance, and boom, you're in a portfolio

of say four to ten et fs. They charge you twenty five basis points, which is more than half as cheap as an average advisor. They do some rebalancing, some tax laws, harvesting, and there's no minimum, So robo advisors are very popular with millennials and people just getting started who don't have other sort of life things and build up of wealth that requires maybe more of a human touch,

although Betterman starting to do that too. But the thing about Dan is he does that so he puts the portfolios together, but he also does a lot with behavior and Betterman exclusively uses e t F. Yes, so Dan part of his job and the and the company as a whole is to go through the e t F and decide which ones who want to use and in what percentage to make this portfolio a K the dish.

By the way, this week Eric Me and our producer Jordan's went on the road down to Betterman's office, So you're gonna hear a little bit of an office vibe at this episode because of the show on the road. That's code for not great audio, so enjoy Anyway. This week con Trillions meet a master chef. So we're here at Betterment with Dannygand who are you? So? I am the director of behavioral Finance and investing in Betterment. Betterment is a what we're called a robo advisor, so we're

predominantly online financial advisor and investment manager. We were the original so we started taking client money back in two thousand and ten. So yeah, we're actually getting to be old and tenured. So a lot of times people will associate robo advisors as a disruptor. What are you disrupting? We'll talk about the traditional advisor and how you're different

and why this is catching on. A lot of the time, the seeds of our our own destruction in businesses are seven by choices that we make or choose to not make. And I think if you go back to when Betterment was founded, it was right after the financial crisis, and there was a lot of lack of faith about their being good financial advice being distributed. It was high cost, despite the fact that a lot of it was pretty consistent and systematizeable. People had gotten comfortable with the Internet.

So I think if you if you went back in time, you could say, actually, a lot of the established players very much could have dumbness themselves, but it would have meant cannibalizing revenues um and a really big I T investment. So let's talk about that. User experience. So when someone comes to the Betterman dot com website, where do you go from that? So I think the first most important thing is that we need to make it easy for a wide variety of people to get to the point

where they understand what Betterment is doing for them. And that involves allowing the client to both see how we believe we have value, so focusing them on we're going to build you a diversified portfolio. We're going to recommend risk level and allow you to have multiple portfolios depending upon the goal that you're investing for. And we're gonna talk about the value to you in terms of tax efficiency or getting your time back or get a better

financial plan to set up for yourself. That experience is really dependent upon the customer and how they choose to interact with us. So we sometimes have what's interesting is um how much selling we really don't do on the website. I would say it's some very large percentage of our clients show up, spend no time on any of our

marketing pages. They've heard about us through a friend or through some other um sort of medium where the site I'm in and they you know, they hit our website, they open an account and all of a sudden, there's a hundred thousand dollars coming in in the next week, So why use a robot solution out? Yeah, and let me jump in on that, because I think a real advisor at this point and say, that's great, you're doing as allocation for me, But what about some of the

more human things that I provide. Yeah, it always sounds so much like somebody trying to convince themselves as much as anything, or a little bit of fear in their voice. So I worked in wealth management with high night Re financial advisors before, and the thing that kept striking me was what percentage of what they do could be done

systematically by a computer? And if you think about inputs in my background and behavioral thing, I look at people and I say, we have this this brain, this little chunk of meat between our ears, and it takes inputs from our eyes and from our ears, and then it runs little algorithms, then it decides what to do, which

are its outputs. You can do a lot of that kind of mimicry of saying I'm going to talk to a financial planner and I'm gonna say somebody wants to open an I RA, what do you need to know we're going to give them good advice about that? What questions do you ask? How do you use that information? And what's the output? And I would say, like version one point of rogue advising is just the picking off of whatever is the lowest hanging fruit that is easiest

to do. The advisors do like say, you know, should I use a wall for a traditional ira A? How much should I contribute to my four O one kit? These are things that is very apparent how you would make this decision and how you give this advice. And I think as that people confuse the advice from the distribution mechanism. I think that take good advice and you can think about like did the advisor send it over

email or did they use and excel? You know, there are these things that are like the medium through which you give the advice. We effectively just said we are going to do this through medium where we can give it to everybody through a website, and we're gonna invest heavily in writing the algorithms correctly knowing what questions we should ask, and then it's simply a matter of you know, scaling it up very quickly. So let's talk about I've just put a hundred dozen dollars because hey, let's make

up a number. Right, you're gonna put me. You're gonna basically do ask that allocation for me, and you're gonna do that based on of series of questions that I basically answer, Right, are all those solutions and those portfolios straight out the shelf or are their custom options as well? So it's interesting, Uh there, I forget what the number is. There are literally thousands of different end states that you

can end up in. The First thing we do is I like to think about we talk about your circumstances and your goals where you want to be in the future. So there are facts about you. Um, let's use, for example of the fact that we're in New York City. Now, if you live in New York City and you're making a pretty serious income, you're gonna pay both federal high

federal tax rates and high state and limberal taxes. So there's an interesting piece of tax information in terms of how you learn and how much you learn that actually feeds through into the investment process, which is that if you're using a taxable account with us, you're probably going to push you towards using New York State municipal bonds because there's so much tax savings in it for you. So one element is who you are, your circumstances. The

other element is um your future. You know, are we talking about opening up a roth IRA, a traditional ira, a taxable account? How much risk should we take? How long should we be investing for? How are you going to withdraw that money? So strangely that like the foundation on which the allocation and the advice is built isn't about investments. It's about the investor, and from there we start thinking about how we can match and tailor the

investments to serve the investor. So in this case, you might say, I'm looking to put my kids through college in New York State in a few years. I've already done the five twenty nine, I want to do things. I'm want to save some more. We would put you into a portfolio that had less risk because it's a short time horizon, and also there would be a higher weighting towards New York State municipal bonds. So that's not like a very specific example, but just how do you

think about asset allocation in general? On a more metal level. So we kind of simplify things down to generally speaking the stock versus bond allocation. So if you are in our bond allocation, we basically think that means a fine site, no risks. In that case, you are a hundred percent in sh V, which is a ultra short treasury. That's

like putting your money magic exactly right. It is is is close as you gonna get to a money market fund in the e t F world, Which leads to another question, which is is everything you guys do E t F it is to pick up and keep talking about it with this basic poor close and how do you pay? So in every case we are looking at

maximizing the customer's takeover trends. So we generally think that it is unlikely that any fund that is actively manage and that includes active in disease is going to outperform or at least there's a really significant headwind, and so we tend to look at funds that have very low expense ratios, that are large hand liquid so that we can buy them and sell them there's a lot of

outstanding interest without the customer paying significant transaction costs. Also, where if there is a big move, We as a sort of trader are not going to have a lot of impact on those markets because there are so many other people trading. So all of it comes down to cost, either the expense ratio of the fund, the bid ask spread of the fund, the depth of market of the fund, just trying to keep all of those costs, both sort

of ongoing and liquidity related as low as possible. And for the any international section of the portfolio, what what do you use for that view? Do you know, is it something that is uh international developed or something that's total international or do you ever do single countries? Great questions, So we do on the stock side. We use our primary ticker, and I'll get back to what I mean by that is v A, which is the Vanguard International

Developed Fund. Believe it costs something like eight basis points. And then we also have the International Merchant Market Fund VWO and the key there it's really interesting in the field that it is sometimes cheaper to use more funds than to use just one fund um. So our portfolio as a whole cost I believe about nine or ten basis points once you take into account all of these fund costs. If you were to use the all Country World Index et F, which is provided by black Rock.

I believe it costs thirty three basis points and they have asset allocation funds UM that can do someone I finast. Vanguard has bt BT that's the whole lenge, a lot of it, that's twelves. Yeah, it's interesting. Yes, you've got cheaper using a couple of products instead of the whole lenge a lot of one exactly, even if it's even And it's Vanguard to boot, which is interesting exactly. And it also allows us to manage risk at different levels. So imagine that you're a customer who comes in with

a long time horizon. We give you a knight fetures in stock portfolio. But then as your time arts and gets shorter and shuter, you get closer and closer to needing to spend the money. We want to decrease the risk. We want to be able to change the proportion that vw A emerging markets makes odds. We don't want to

be stuck into one just one allocation. So there's a level of granularity that allows us to take on more emerging market risk, more small cap value risk at the high end, and we want to be able to tourne that down at the low end. So by having these slices, we couldn't go much simpler. But by having these slices, it's actually less expensive to clients and it gives us

more control. The more granular you cut something, the more you can tax lost honest and so we actually wanted to have things that were sufficiently unlike each other that we would maximize tax lost honesting opportunities. And of course this question we talked about, you know, you talked about VW.

That's the being guard emerging markets. Now there is a cheaper one in schwab, you don't always go for the one that's the cheapest, because you could have a new issuer come out and be say zero fees, but you would necessarily go for that. So is there a liquidity threshold you look at like how many what's the volume

have to look like for you to buy it? But so I love Mexican food, So we use a measure called the tact the total annual cost of ownership, which includes both the expense ratio that the fund charges but also the cost of getting in and out of the fund. Right, so it's a little bit like my parents live on a barren island and their house might be really cheap, but it's going to cost you a pretty big toll

to get onto that island. And the toll in this case is the bitest spread, right, the okay, And that's you just put that into percentage terms and it's usually and then you put that into the taco because tacobou it's healthy and delicious. Um. So yeah, that that measure guides us. And in a lot of cases, Uh, a new fund will come out that doesn't have a lot of existing people training it. Um, it doesn't have very m good spreads, and so we'll watch it. This is

actually a big part of what we do. We actually revisit what funds we purchased on behalf of clients every quarter and so every quarter we can say, oh, there's a new fund out here. Um, it has a really good sort of prospective. It's not ready for showtime yet. Is that a taco party? Yes? It is. So you also have this really unique background because you have an expert decent behavioral science. Talk about that. How did you acquire that by being decisive? So quick step back? What

is behavioral science I mean? And how does it plan to investing was what is that? So a lot of the economics and finance profession, when when it was really starting out and starting to get very rigorous and empirical, you need to make assumptions about how people behave, and the math is a heck of a lot easier if you assume people are rational and make good decisions and

don't have biases. So for years a lot of models were built up on the idea that on average, you know, people are kind of smart, or they figure things out and they're not making systematic mistakes. I remember, so I was a sophomore in college and underground and starting to read some papers about how people made systematic errors and probability or in investing, or how they thought about money,

and thinking, you know what, this is really interesting. I think I could like have a career as an academic in it. And then I continue to read and realize that like all of my ideas had already been done in the nineteen seven years of academics. Um So I realized, actually, I'm going to have to have some kind of a different career and the idea of actually applying it in the real world and saying, okay, people think about money

differently than economists. Do they make specific errors? What are that? And as there an opportunity to help people have better outcomes if we work with them as real human beings rather than is perfectly rational agents. So that's a large part of it is saying like, how do people actually make decisions if they knew better, how would they make decisions? And how do we close the gap between those? So

can I go to an example of this? So and everybody's wondering about this when the next market downturn happens, right, or a correction or a bear market, talk about what you would do for clients who are scared and want to sell everything. I tend to think that a vaccine is way better than are here. Um, this is tough. So this is one of the toughest things we've strung with. Generally speaking, we are boring. We are not here to help you out perform. When we talk to you about things.

We talked to you about goals and whether or not you're on track to hit goals and how are you situated today for what you need to achieve in the future. If you log onto your betterment account, we don't talk about what the market did yesterday. Or the past month, or really at all. We talked to you about are you on track to hit your goals? And where does it look like you're going to be in five years? And is your portfolio drifted and what should you do

about that? So the experience of being a Betterment customer is very different than going to an online worker site. And I think that shift of focus from what happened recently to what I need to know about the future and what can I change it's a dramatic driver of

differences in behavior. So when we use red and green on our site, it has nothing to do with what the market did and has to do with whether or not you're on track for the future green, or whether or not there you need to make some actions to get back on track. I think part of it is

that we get very smart clients to UM. There's been a number of different pieces of research I've been involved with or other people have that clients very strongly self select to something that they that is what they want. So if you want gambling and get rich quick, you're gonna be in some kind of an easy, low cost direct brokerage where you get to come in and buy your apple and sell it and shorten and do all these cilienings. Our customers, we don't. We don't have UM.

You you come in and we talked to you about goals and plans and taxes and finance, UM, and we never talked about single stocks. We don't. We don't have anything that shows you in a single stock that you're invested in. So we have customers who that works. We have people who are interested in the long run and planning and making smart decisions, not in short term market

timing anything. So I actually I think there's gonna be a really interesting sort of shift for you know, people ask what's gonna happen to the instus Number one, I don't need to do too much because the customers who are our customers are already heading the game. They're already smart, they know what's going on. We're building interfaces and services in a way that helps reinforce that by helping them focus on the future and not the past. And finally,

there is some elements we actually have been through. I think there was a draw down in early Every time we have these little I sort of think of them as dress rehearsals for the big thing. We run small experiments about how much do we you know, if we do this on our mobile phones, does that help? If we do this kind of intervention on the level, how effective is it? You know, like should we use people

or should we make it be more anonymous. We're constantly learning and really systematically learning about what works at scale for improving behavior. UM, and it works on our client base. When you think about that proactivity from your perspective, it's also do in all disaster. I guess from a from an investining same point for an investor, what's the single biggest investment think that people meant there? Oh, it's it's saving. It is not saving enough and usually in the right way.

So UM, if you're saving in a taxable cash account before you're saving in your fraual on ky where your employer notches, you're literally missing out on a hundred percent returns immediately in a tax advantage of vehicle. Again, this is where I think what we do is incredibly sexy because we help you avoid those mistakes that cost you the most money, making sure that you're hitting the company match or that you're using the tax advantage vehicle and

which was et cetera. UM. On the other hand, so I think that saving and saving the right amount in the right way and for the right things, like, um, how much do I wish that five years ago the future Dan went to like pasted Dan and said, you're going to have a kid. Like you are a married, twenty nine year old guy, You're gonna have a kid. Start saving today. That kind of foresight is very valid. People people's biggest mistake is not thinking about their saving

in the right way and making it effortful. People like, the more that you're not thinking about you're saving it, you're doing it any way. The more good, the better you're gonna be at it. So help me better understand my own brain. And what games do you guys play to help me help myself? Sure, I love this because there's a lot of a lot of jobs in life where like when you do good at it, people know.

And actually, in my job, if I'm really good at our clients have no idea that I've kind of like Jedi mind tricked now, which is gonna say, I mean tricky, It's just that it's it's part and parcel of the experience. So a good example is the use of color. It's not that we don't use color it's that when we use color, we're gonna give you the impression of everything being okay unless it isn't. And red is going to

draw your attention into something that you can fix. So if you aren't saving enough, or if your portfolio is drifted and it's something that you need to take care of, that's gonna show up red when you log in, and our eyes naturally gravitated the contrast, you're gonna be pull to that you're gonna spend time and it's like, I've

seen this. It's really annoying to have a little red pop up on your thing and you want to resolve that you hit done with, And the resolution of that isn't going to be you know, body apple, it's going to be figure out how to say it. Twenty more honors a month and you'll be fine. Other elements of it is kind of making things be interesting or move or attention grabbing that again, you can control the outcome

of rather than the past. So imagine if you are a weather app that kind of showed me what the weather was the past week, you look at it and go, this is the dumbest app in the world, And yeah, that's what must investing in finance apps, They're like, it used to be worth more, now it's worth less, and

you're like, well thanks, that's not really useful information. So a lot of our apples focused on you know, we don't have a crystal ball, but we're pretty sure this is what the future holds, and we're going to give you the kind of guidance that you might want to change your route or aut on some more time to

your journey. And do you do you have anything to appease somebody who just feels like I gotta sell something like is there I think I quality a conference one's talking about this where you get you let them do a little something to get out of their system. What's that like? Absolutely? So, the way I think about it is that you never stop a river. You can redirect it, you can use a f irrigation, you can use it to generate electricity, but you're never gonna be able to

stop the river. Um, So you have to take whatever sort of momentum and real underlying emotional issue that they have and redirect or make them think about it slightly differently. So really a good example, here's an incredibly irrational thing. People market time in their taxable accounts more than they do in their tax advantage accounts. So you look at your retirement account and you're like, no, that's long term, I'm not going to touch it. But I'm worried about

the election. I think the market is going to go down, so I'm going to market time in my taxible account. This is incredibly dull, you know, like the market is going to have an equal impact on both those accounts. But if you market time and you're taxable, you're definitely gonna end up owing taxes. So what we did is we bel a future called a tax Impact Preview, and what it does is just for taxable accounts, before you

go through with an allocation change, it says donal. We find if you want to do this, but you're gonna owe five dollars in taxes common at um. People don't think about taxes when they're trading. It's hard for them to calculate it, and they hate them. People really hate taxes. So if you throw up a there is a sticker press of five dollars in tax if you go ahead with this um. What we have found is that if if that number is more than fifty dollars, if they're

gonna have more than fifty dollars in taxes. There's less than one in ten ten chance that they're going to go ahead. So give them something else that they hate more. Where do they hate more than losing money? They hate paying it to the government apparently. So to bring this back to the ETF, I want to ask you your average customer, do they know that they're actually investing in ETS?

I would this is the average one does. Yeah, I would guess that they would have a hard time explaining to you what how an ETF was different than a mutual fund and why and so on. But I think they have a general understanding that ETS so liquid and low costs and tracking disease, and that's the regular for them to be a message, damn makes your time? Can can we have a taco now? Yeah? I think it's time for a taco? Now. You're making me hungry. It was the goal. By the way, they're a taco ETS.

There's a food and Beverage ETF with the ticker PBJ, which is pretty good. But I don't there's probably some taco company in their baggorite jigger I like Rhoda. I will have to do J that bias. But okay, that's bies he has to outside of that, Jay nug is another j um. That's a good question, Jay Ugg. By the way, it's probably the most volatile eca from the planet's triple ledgers junior gold miners. I think that's what you're using. You're after tax account. Yeah, exactly. Actually, is

there like that? Not better than it? Portfolio? What would that's a really good what would be like the antimatter to our portfolio? Yeah, it would be like a triple leverage short bigger. Yes. Thanks for listening to Trillions. Until next time. We can find us on the Bloomberg terminal, Bloomberg dot com, Apple Podcasts, and a bunch of other places that probably haven't heard about yet. We'd love to hear from you. We're on Twitter, I'm at Joel Webber Show,

He's at Eric Baltunas. Trillions is produced by Jordan Bell with help from Magnus Henrickson. Francesca Levy is the head of Bloomberg podcast Bye.