Morningstar will soon begin issuing “Analyst Ratings” of mutual funds that will supplement, but not replace, its well-known 1- to 5-star ratings.
The new system will debut on Tuesday, when Morningstar plans to publish analyst ratings for about 300 funds. By the end of next year, Morningstar expects to have analyst ratings on roughly 1,500 funds, representing more than 75 percent of mutual fund assets.
Here’s a look at the new ratings:
—Goal: The new ratings are intended to give investors a sense of a fund’s prospects, rather than just summarizing past results. Star ratings are based on quantitative measures, including investment returns measured against the performance of similar funds, and the level of risk the fund took to achieve those returns. The analyst ratings will incorporate past returns, but also consider qualitative factors to gauge how a fund is likely to perform over at least the next five years. In essence, star ratings reflect what a fund has accomplished, while analyst ratings are an assessment of what’s in store for the fund.
—Ratings scale: Funds will be rated on five levels. Three are considered positive: Gold funds are best-of-breed funds, with strengths in all of the five factors that analysts consider in assessing funds, referenced below; silver funds have notable advantages across the five factors, but perhaps not in all of them; and bronze funds possess advantages that outweigh any disadvantages.
The two other ratings are “neutral,” indicating a fund isn’t likely to deliver standout returns, either for the better or worse; and “negative,” a fund with at least one significant flaw deemed to make it inferior.
Methodology: Analysts will assess funds based on five factors:
People: The quality of a fund’s investment team, including its managers and analysts
Process: The strengths of the fund’s portfolio construction and investment selection, including whether strategy is implemented effectively
Parent: The quality of the company running the fund, including its record of acting in fund shareholders’ interests
Performance: The fund’s long-term investment returns compared with those of peers, and the consistency of returns in different market conditions
Price: The investment fees the fund charges, relative to those at similar funds.
—What’s rated: The analyst ratings will be assigned to funds that are new and old. That differs from the star ratings, which Morningstar assigns only to funds with performance records of at least three years.
—Updates: Analysts will review the ratings annually for all funds that it covers, and more frequently for the largest and highest-rated funds, to see whether a ratings change is merited. Any changes in a fund’s operations that could affect the rating will trigger a review as soon as possible. Morningstar also will periodically review how high- and low-rated funds perform as groups, to see whether the ratings are useful in predict fund performance.