Morningstar’s ETF guru, Ben Johnson, quipped two weeks ago that talk about strategic beta – also known as smart beta – was conspicuously missing from the research firm’s annual conference agenda, along with business cards, ties and dress shoes.
Indeed, the buzz around factor-tilting strategies appears to have faded while mega-trend-following funds focused on ideas like electric vehicles and biomedical innovations have captured the lion’s share of the attention from ETF providers and advisors alike.
Last quarter, 27 thematic ETFs debuted, according to State Street Global Advisors. That is more than triple the number launched, on average, during any quarter in the past three years, the Boston-based firm’s research indicates. Meanwhile, year-to-date through Monday, just 13 ETFs that meet Morningstar’s definition of strategic beta have launched. That compares to 21 for all of 2020 and 65 in all of 2017.
State Street's Matthew Bartolini on how past years' thematic and smart beta ETF product launches are now fueling investor adoption.
Like so-called smart beta, thematic funds go after clients’ overarching desire to generate outperformance relative to cap-weighted benchmarks in a more systematic manner than subjecting their portfolios to the whims of a single active manager, analysts and product providers say. Indeed, both thematic and smart beta strategies can fit in the 10% to 20% of portfolios that advisors generally allocate to “explore” strategies beyond core holdings, said Jeremy Schwartz, global head of research at WisdomTree.
But thematic and smart beta ETFs vary significantly in their approach to delivering outperformance, their use cases, and, importantly, in how end clients understand them, industry leaders note.
Thematic strategies are in many ways “diametrically opposed” to smart beta in that they focus on companies that will benefit from major changes in the world, inherently tilting portfolios toward high-growth, high-beta and smaller stocks, said Matthew Bartolini, head of SPDR Americas research at State Street Global Advisors.
Traditional smart-beta strategies, by comparison, tilt toward value, quality and lower volatility stocks — factors that historically have outperformed, he added.
The problem for smart beta is that they’re wonky, and often have been targeting the wrong factors. “What’s worked for the past 10 years has been growth,” WisdomTree’s Schwartz said. Thematic strategies, meanwhile, appeal to a desire to “find unique stories to fill out the growth style box,” he added.
Explaining to clients the investment thesis behind electric vehicles or cloud computing or the work-from-home movement may be easier than breaking down the historical performance of Fama-French factors.
But is smart beta dead as an investing concept? Not at all, product providers say.
WisdomTree recently rolled out an ETF combining growth and momentum factors, all while packaging its own and third-party thematic ETFs into models that can complement its other core smart-beta strategies. Columbia Threadneedle, meanwhile, has invested heavily in smart-beta fixed-income ETFs, including last month’s launch of its Short-Duration Bond ETF.
These managers even argue that thematic and smart beta can live together in the same portfolio, working to provide outperformance at different times. So advisors don’t have choose between between their old friend and the new kid on the block.