Is Smart Beta Not As Smart As You Think?

So-called “smart beta” funds have been all the rage over the past year or so. But in a recent piece for Alpha Architect, Wesley Gray highlights some data showing that smart beta may not be as successful as some claim.

“The ‘secret sauce’ of smart beta is its use of alternative weighting schemes to capture premiums associated with factors such as size, value, momentum, low volatility, and so on,” Gray writes. “Unfortunately, academic researchers are having difficulty finding the secret sauce associated with smart beta. For us, this finding is unsurprising, since other researchers have already highlighted that many so-called factors are likely false.”

Gray looks at a study performed by Denys Glushkov that shows that smart beta fund performance overall isn’t great. “Using a comprehensive sample of 164 domestic equity Smart Beta (SB) ETFs during 2003-2014 period…I find no evidence that SB ETFs significantly outperform their risk-adjusted passive benchmarks,” Glushkov wrote.

Gray says the study also found that smart beta funds underperformed during down markets,
“We agree that ‘Smart Beta’ can be replicated via allocations to passive products,” Gray says. “We also find that smart beta is essentially an expensive way to access active management.”