‘Smart Beta’: Bridging Active Vs. Passive

November 26, 2014

Advantages & Disadvantages Of Smart Beta

In our opinion, to use smart beta effectively, you need to:

  1. Be able to identify which factor(s) can produce alpha
  2. Be able to identify when that factor will come in and/or out of favor via a market environment change

You may also need to overcome some disadvantages of smart beta; namely, the following:

  1. Ask yourself, does the expected alpha overcome higher expense ratios?
  2. More concentrated portfolios can increase return but they can also increase stock-specific risk.
  3. Wider spreads on trading these less liquid products require one to ask whether the expected alpha outweighs the risks.

For decades, active mutual fund managers have used factors such as dividend growth, earnings growth, balance sheet quality and momentum to manage equity mutual funds.

In fact, Clark Capital uses these factors in several of our own investment strategies. Investors should be able to benefit by having access to these factors in an ETF form, but only if they can figure out how to properly use them.

Smart-beta strategies provide a tool kit for accessing investment factors such as low volatility and momentum, enabling advisors to take positions with intended consequences. Smart-beta ETFs have combined active and passive management, which we believe may lead to an improvement upon a traditional market-cap-weighted index. And they are down in at least seven ways:

  • Dividend (growth or yield)
  • Earnings
  • Volatility/Beta
  • Quality/Fundamental (balance sheet factors)
  • Buybacks
  • Momentum
  • Equal Weight Indexes

We believe managing risk to the upside and downside via low-volatility and higher-volatility ETFs seems to be the most valid use of smart beta. Some examples of ETFs we have used to tactically shift a portfolio’s risk are:

Because smart beta is such a broad and complex investment category, it’s important to identify clients’ personal objectives and the outcomes they are trying to achieve. As with any relatively new investment category, we recommend dedicating ample time to research and education and/or seeking out a manager with a seasoned track record in the space.

Clark Capital Management Group is an independent investment advisory firm providing institutional-quality investment solutions to individual investors, corporations, foundations and retirement plans. Clark Capital was founded in 1986 and has been entrusted with approximately $3 billion in assets. For more information about Clark, contact Advisor Support at 800-766-2264 or [email protected]. Please click here for a complete list of relevant disclosures and definitions.




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