This Day On The Street
Continue to site right-arrow
ADVERTISEMENT
This account is pending registration confirmation. Please click on the link within the confirmation email previously sent you to complete registration.
Need a new registration confirmation email? Click here
Cramer's Action Alerts PLUS - See his portfolio and get alerts BEFORE every trade. Learn more NOW!

Can Morningstar Pick Winning Funds?

NEW YORK ( TheStreet ) -- Morningstar's fund ratings have long carried weight.

Investors flock to mutual funds that earn the top Morningstar grade of five stars.

But this has troubled academic researchers who argue that the star system can only provide limited guidance. The issue is that the ratings rely solely on past performance, and the past doesn't necessarily predict the future, as the boilerplate warnings note.

Morningstar has conceded the point, saying that the stars should only be used by investors as a starting point for research.

Now Morningstar has introduced a new system that rewards top funds with ratings of gold, silver or bronze. Although the old star system simply indicates the funds that had the best returns in the past, the new ratings represent Morningstar's judgment about which funds will be winners in the future.

It is too soon to know whether the latest system can provide reliable guidance, but some of the early results are promising.

For the 12 months ending in May, gold-rated large blend funds returned 28.6%, compared with 27.3% for the S&P 500. Large value winners returned 29.6%, and large growth 29.0%. Top-rated funds in the intermediate-term bond category returned 4.6%, compared with 0.9% for the Barclays Capital U.S. Aggregate bond index.

There is good reason to think that the new system will prove more reliable than the stars. Besides looking at risk-adjusted past performance, the Morningstar analysts now consider a host of factors, including fees and whether fund managers invest in their own portfolios.

The inclusion of fees alone should improve predictions. Many studies have shown that cheap funds outdo expensive ones on average. In addition, Morningstar says that when managers invest heavily in their own funds, they tend to outdo competitors who do not have their nest eggs at stake.

Under the new system, the final grades are partly based on data and partly on the subjective judgments of the analysts. The analysts evaluate whether a fund manager acts in the best interest of shareholders.

1 of 2

Check Out Our Best Services for Investors

Action Alerts PLUS

Portfolio Manager Jim Cramer and Director of Research Jack Mohr reveal their investment tactics while giving advanced notice before every trade.

Product Features:
  • $2.5+ million portfolio
  • Large-cap and dividend focus
  • Intraday trade alerts from Cramer
Quant Ratings

Access the tool that DOMINATES the Russell 2000 and the S&P 500.

Product Features:
  • Buy, hold, or sell recommendations for over 4,300 stocks
  • Unlimited research reports on your favorite stocks
  • A custom stock screener
Stocks Under $10

David Peltier uncovers low dollar stocks with serious upside potential that are flying under Wall Street's radar.

Product Features:
  • Model portfolio
  • Stocks trading below $10
  • Intraday trade alerts
14-Days Free
Try it NOW
Only $9.95
Try it NOW
14-Days Free
Try it NOW

Check Out Our Best Services for Investors

Dividend Stock Advisor

David Peltier identifies the best of breed dividend stocks that will pay a reliable AND significant income stream.

Product Features:
  • Diversified model portfolio of dividend stocks
  • Updates with exact steps to take - BUY, HOLD, SELL
Trifecta Stocks

Every recommendation goes through 3 layers of intense scrutiny—quantitative, fundamental and technical analysis—to maximize profit potential and minimize risk.

Product Features:
  • Model Portfolio
  • Intra Day Trade alerts
  • Access to Quant Ratings
Options Profits

Our options trading pros provide over 100 monthly option trading ideas and strategies to help you become a well-seasoned trader.

Product Features:
  • Actionable options commentary and news
  • Real-time trading community
Try it NOW
Try it NOW
Try it NOW
To begin commenting right away, you can log in below using your Disqus, Facebook, Twitter, OpenID or Yahoo login credentials. Alternatively, you can post a comment as a "guest" just by entering an email address. Your use of the commenting tool is subject to multiple terms of service/use and privacy policies - see here for more details.
Submit an article to us!
SYM TRADE IT LAST %CHG
AAPL $129.09 0.00%
FB $79.75 0.00%
GOOG $571.34 0.00%
TSLA $197.32 0.00%
YHOO $44.11 0.00%

Markets

DOW 18,288.63 +155.93 0.86%
S&P 500 2,117.39 +12.89 0.61%
NASDAQ 5,008.0960 +44.5690 0.90%

Partners Compare Online Brokers

Free Reports

Free Newsletters from TheStreet

My Subscriptions:

After the Bell

Before the Bell

Booyah! Newsletter

Midday Bell

TheStreet Top 10 Stories

Winners & Losers

Register for Newsletters
Top Rated Stocks Top Rated Funds Top Rated ETFs