Like passive funds, they track indices. But unlike plain-vanilla index funds that mirror market capitalization, these are guided by a specific set of rules linked to investment styles or factors such as value, momentum, alpha, quality, or low volatility.
These indices—carved out of regular market-cap-based ones—are rebalanced periodically (every three or six months) to drop stocks that no longer qualify and add those that do.
However, smart-beta strategies don’t always beat traditional passive ones. Their success depends heavily on market conditions. For instance, momentum factor may underperform when markets are consolidating or correcting, but may do well in other scenarios. Additionally, these strategies have sectoral tilts, meaning the performance of certain sectors can significantly influence how they behave.
That’s why these funds are best used for additional diversification or as tactical investments—not as replacements for traditional index funds or actively-managed funds in your core portfolio. Here’s a closer look at how these funds work and what can investors expect from various smart-beta strategies.
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How they’ve fared
Not all smart-beta strategies are created equal—and this year’s numbers show it.
The value and low volatility (low vol) factors have been standout performers in 2025. The Nifty 500 Value 50 Index is up 14.04% year-to-date, while the Nifty 500 Low Volatility 50 Index has delivered similar gains of 14%, comfortably outperforming the Nifty 500 Index, which rose about 7% during the same period. (Data as of 31 October 2025.)
By contrast, defensive factors such as equal-weight (Nifty 500 Equal Weight Index) and quality (Nifty 500 Quality 50 Index) have been positive but lagged the broader market. The quality factor, which favours companies with robust balance sheets and steady earnings, has had a muted year.
The momentum factor, represented by the Nifty 500 Momentum 50 Index, has struggled the most— down roughly 7% year-to-date— underscoring how factor performance tends to rotate with changing market cycles.
“The trend-driven factors such as momentum and alpha tend to underperform in a sideways market like the one we’re seeing now,” said Siddharth Srivastava, head ETF-product and fund manager, Mirae Asset Mutual Fund.
“In contrast, low volatility or large-cap-heavy equal-weighted strategies tend to hold up better in such phases,” he added.
The equal-weight approach reduces the dominance of a few large companies that typically drive returns in market-cap-weighted indices like the Nifty 50. This broader participation helps when heavyweight stocks stagnate, allowing smaller constituents to contribute more evenly to overall gains.
Know the universe
When choosing a smart-beta fund, it’s not enough to pick a factor— you need to understand the sectors behind it.
“When considering smart-beta or factor funds, investors should not just look at the factor, but also look at the sectors and the universe of stocks the factor is sticking to,” said Kavitha Menon, founder, Probitus Wealth.
For instance, the value factor has outperformed this year largely due to its tilt toward PSU and commodity-linked stocks, which have benefited from strong earnings, government-led infrastructure spending, and firm commodity prices.
Meanwhile, the low-volatility factor has held up thanks to its higher exposure to defensive sectors like FMCG and healthcare, which tend to see smaller drawdowns during volatile markets.
The quality factor— which focuses on companies with strong balance sheets, consistent earnings, and high return on equity — too has lagged because of its sizeable exposure to IT (information technology) stocks, which have not done well in recent past.
‘Momentum funds’ typical underlying universe is largely mid-caps and small-caps. Momentum and alpha factors often have a natural bias toward mid- and small-cap stocks. These segments tend to move faster in trending markets, helping these strategies outperform in rallies but also making them vulnerable to sharper corrections when sentiment turns,” Menon pointed out.
Investors should check the sectoral tilt of the smart-beta index — available in factsheets of index providers — to understand how performance of specific sectors could influence the fund’s returns.
Don’t stick to one strategy
Smart-beta funds don’t move in sync— and that’s the point. Each factor behaves differently across market cycles, making timing and selection tricky.
As Bhavesh Jain, co-head of factor investing at Edelweiss Mutual Fund, explains, predicting which factor will outperform at any given time is difficult because market dynamics change rapidly.
For instance, the quality factor led in 2020 as investor sentiments chased safer avenues after the Covid-19 crash, but was among the worse performers in 2021 and 2022 as recovery started kicking in and sentiments improved. This cyclicality means that no single factor can deliver consistent returns in every phase of the market.
“Investors that understand the cyclicality of smart-beta strategies and sectoral tilts may consider them as these can go through periods of underperformance. For other investors, opting for multi-factor strategy is a better option as factors with opposing tendencies can complement each other, helping offset the impact when one factor goes through a weak phase,” Srivastava said.
Combining complementary styles—such as momentum with low volatility, or value with quality—can help balance the risk-return equation. Menon suggested studying the long-term behaviour of these strategies, including their historical rolling returns, volatility and Sharpe ratios (which measure risk-adjusted returns), to identify combinations that smooth out performance over time.
Since each factor comes with its own strengths and weaknesses, diversification is key. A multi-factor approach helps smoothen returns by balancing styles that behave differently across market and economic cycles. When one factor goes through a period of underperformance, another can offset it—reducing volatility and improving the overall consistency of returns.
Such strategies are best suited for investors who’ve already built a core portfolio through traditional mutual funds and now seek additional diversification. Factor investing involves a degree of complexity, especially in understanding how different factors interact and complement one another.