Smart beta

A smart beta fund tracks a style index or uses a mechanical investing strategy in order to provide the returns associated with a particular strategy without the expense of active management. For example, by tracking a value style index, the fund can benefit from the value effect.

Strictly speaking smart beta could be more accurately described as cheap alpha, in that it does not require the same effort (and therefore cost) as trying to add alpha through stock-picking, but still aims to out-perform the market. The term smart beta does have the advantage of sounding a lot better when trying to sell a fund.

These strategies also provide better control of risk, as investors know precisely what strategy will be employed. They can also offer lower risk than tracking a market index, as one option they offer is tracking a minimum volatility index, which aims to offer market returns but with a lower volatility of returns.

The increasing popularity of smart beta/style trackers, even coming on top of the established position of index trackers, does not mean the death of active management. What has happened is that active management has concentrated in specialist alpha funds, and, even more, in hedge funds. Given traditional active managers tend to use closet track most of the money the manage, the real change is that risk and cost are more visible to customers.