The Brazilian superstar has netted more than 20 times since moving to Bremen in the summer of 2006 and Smith believes the playmaker to be a real talent.
"I watch the German football and for me they have one of the best players in Europe in Diego, he is terrific. He had a fantastic spell there in a really good team with a really good coach who has been there for four or five years now," said Smith.
The Ibrox gaffer also believes that Werder Bremen are a step up in class from fellow Bundesliga side Stuttgart, who Rangers faced earlier in the season.
"They've had a really consistent spell of football. If anything they'll be kicking themselves that they missed out on the championship last season with one or two poor results right at the end.
"We have played Stuttgart, who won the championship, but we are now looking at a better side. We have a really difficult tie - they have a good approach to the game and the way the play it is they go about their own game, not entirely in a British style, but it's as close as you will get."
"Our aim is to win the UEFA Cup and I'm sure we can beat any team that's left in the competition. But there's no doubt beating Rangers won't be easy. They have shown ability in the Champions League beating teams like Stuttgart and Lyon."