The interest in investments in smart beta indices has exploded recently. While smart beta provides many benefits, there are still risks involved which investors should not ignore. Understanding the benefits and risks can enable individuals to make better investment decisions, as well as avoid potential stockbroker misconduct.
What is Smart Beta?
Smart beta indices are financial products that define a set of investment strategies intended to seek and track the performance of alternatively weighted indices from the traditional market capitalization based indices. Traditional funds attempt to track the performance of a particular benchmark index, such as the Dow Jones Industrial Average or S&P 500. These types of indices are weighted according to the market capitalization of the companies that form them. The larger the company, the more shares the investor owns of that company.
Alternatively, smart beta places more weight on other factors, such as valuations, dividends, or volatility in making the determination of which company’s stock to own and how many shares of that stock. This approach is intended to capture investment factors or market inefficiencies in a rules-based and transparent way.
Smart beta indices can lead to above-average returns in comparison to traditional index funds, like, for example, the S&P 500. The cost benefit comes from the fact that smart beta provides a sort of hybrid form of investment by providing investors with some of the benefits of having an actively managed investment portfolio, without the cost of having to pay an actual person for that active management. As a result, investment in smart beta indices is often less than paying for active management, but more than traditional market capitalization weighted index management.
Risks of Investing in Smart Beta
Smart beta may lead investors to develop unrealistic expectations for potential returns. It is important to remember that smart beta returns will not always outperform those of traditional index funds. Further, the growth of smart beta indices will ultimately result in some that are not well constructed, which will provide lower returns than desired.
Investors should always read the fund’s prospectus and take note of all costs and risks, as well as the fund’s holdings and liquidity. It is important to determine if the fund is heavily weighted to a specific sector or country that may not be in alignment with the investor’s objectives or strategies. Additionally, investors should be aware that smart beta indices may not be as diversified as other investment options.
New investment products like smart beta indices often contain risks that investors may not be fully aware of. Investors who do not fully understand the risks of their investment decisions can be susceptible to misconduct committed by stockbrokers or other portfolio managers. For more information about investment misconduct or fraud, speak with an experienced attorney today. At the Silver Law Group, we help victims of stockbroker misconduct.
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