Smoking Arrow will only obscure allies within the AoE, which will also damage them on Nightmare difficulty. This can be mitigated with Elemental Aegis, which can be applied for a short time to all party members with Rally. The damage can be further reduced by upgrading both abilities, or alternatively by using Runes of Fire Warding. If this is too troublesome, one may simply want to avoid spending a talent point on said upgrade.
Hint: Smoking Arrow generates a stationary screen of smoke. Just enter the area of effect after the initial damage is dealt. This will obscure any party member without the risk of taking damage.