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By Christine Benz | 10-23-2014 09:00 AM

Ferri: Patience Required for Strategic-Beta Strategies

Investors need to be aware that a strategic-beta approach could take years, if not decades, to produce a premium, says author Rick Ferri.

Christine Benz: Hi, I'm Christine Benz for Morningstar.com. I'm here at the Bogleheads Conference. I'm joined today by investment expert Rick Ferri. Rick, thank you so much for being here.

Rick Ferri: Thank you, Christine. Thank you for having me.

Benz: Rick, we've been hearing so much about strategic beta or smart beta. I'm wondering if you think that there's just a lot of hype behind this idea or do you think it's a legitimate investment concept.

Ferri: Well, let me address the term smart beta first, and then I'll discuss what's really going on. Smart beta is a smart marketing term, which is being misused, in my opinion, to try to get people to invest in strategies that they might not fully understand. The risk of investing in these strategies, if you're doing it because you're attracted to the term smart beta, is that an investor or even an advisor may not fully understand the riskiness behind it and, therefore, may put their clients into something that they're expecting an excess return from. And then they don't get it, or they don't get it for a long period of time, because these strategies, as we'll discuss in a few minutes, sometimes take many, many years, if not decades, to actually get a premium from. If you are just buying this because it's smart, chances are you're not buying it for the right reasons. So, I am not against the strategies. I think that when used correctly, they can help your portfolio. I'm against the way they are being marketed because I think it's shortsighted.

Benz: Let's talk about the part of the strategy that you think is legitimate and that you, in fact, incorporate into your client portfolios.

Ferri: So, the strategy of using strategic beta, or what I call additional beta, is to realize that there are other risk factors in the markets besides just the market itself. And if I decide to take those risks that are persistent in the market, then I should get an excess return over the market. So, the use of these strategies, strategic beta, additional beta, is to determine what the risks are, which ones are legitimate and which ones are just anomalies, and then, if I decide to [go this route], allocate some of my portfolio to those risks above and beyond just a beta portfolio. And that's how you implement this.

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