Rollout of Lipper's New Ratings System Could Blur Funds Picture

Mutual fund marketers may soon learn what car companies have known for years: When there are enough rating systems, everyone has something to crow about.

On Thursday, Lipper, a provider of data used widely by the media, brokerages and mutual fund firms, will revamp the way it categorizes and ranks most funds. The new system will classify diversified domestic stock funds by the stocks they hold, rather than by their stated objectives.

The good news is that the new classifications should help investors and advisers make more precise distinctions between funds. The bad news is that funds that lose ground in the new system can continue to cite their rankings under the old system, which remains in place.

The result could be confusion. If a newspaper uses the new system and a fund firm advertises its higher ranking under the old system, readers could see two different Lipper ratings for the same fund on the same page.

"I sure would be confused. If they had a bad year, they'd just pick whatever makes their funds look best," says William Boyer, a California investor who's been buying fund shares for 20 years.

Most observers agree that the new classifications, based on the market capitalization of the fund's holdings and its investment style, are an improvement on the old prospectus-based system, which created peer groups that many believe are too broad. The old capital-appreciation category, for example, lumps together small-, mid-, large- and multi-cap funds with different investment styles (growth, value and core, which is a blend of the two).

Lipper's new system groups each fund with others that buy similarly sized stocks, following similar growth, value or core investment styles. The resulting peer groups, such as large-cap value or mid-cap core, are designed to create clearer, apples-to-apples comparisons.

The new system also groups each fund into four broad, market-cap-based "supergroup" categories: large-, mid-, small- and multi-cap. These groups are designed to help investors compare funds that focus on stocks in a certain market-cap range, but don't follow a consistent investment style.

Lots o' Lippers The fund tracker will have three sets of categories
Old	New	Supergroup
Capital Appreciation Growth Mid-Cap Small-Cap Micro-Cap Growth & Income Equity Income	Large-Cap: Growth, Core, Value Mid-Cap: Growth, Core, Value Small-Cap: Growth, Core, Value Multi-Cap: Growth, Core, Value	Large-Cap Multi-Cap Mid-Cap Small-Cap
Unchanged Categories: Sector funds, S&P 500 Index, Equity Income, Specialty, World Equity, Mixed Equity, Fixed Income.
Source: Lipper

"The new classifications are a dramatic improvement. If used properly, they will give advisers and investors a much better basis for fund comparison," says Chris J. Brown, an analyst at Boston-based independent fund-tracker Financial Research Corp.

"It's a real positive for investors and brokers because now they can see a fund's true peers and how their funds perform relative to those peers," adds Karina Istvan, a senior strategic planner at Delaware Investments in Philadelphia.

But many worry that these positives could be lost in Lipper's gradual implementation plan. Lipper has recommended that its clients use the new system, but it will permit fund companies to use the rankings from the new system -- including supergroups -- while using the old system in advertisements, literature and presentations during an unspecified transitional phase.

Old, New and Then Some A look at how five large funds fare
Fund	Old category	3-year percentile rank	New category	3-year percentile rank	Supergroup	3-year percentile rank
(FGRIX Quote)Fidelity Growth and Income	Growth & Income	41	Large-Cap Core	53	Large-Cap	60
(FCNTX Quote)Fidelity Contrafund	Growth	53	Multi-Cap Growth	32	Multi-Cap	16
(TWCUX Quote)American Century Ultra	Growth	47	Large-Cap Growth	69	Large-Cap	43
(VWNFX Quote)Vanguard Windsor II	Growth & Income	67	Large-Cap Value	59	Large-Cap	81
(FAGAX Quote)Fidelity Advisor Growth Opp. A	Growth	76	Large-Cap Value	48	Large-Cap	75
Source: Lipper

With three potential Lipper classification systems (old/new/supergroup) to choose from, in addition to those from rivals Morningstar, Value Line and Standard & Poor's, fund companies can present more funds as top-performers, potentially confusing investors.

Fund companies will have to disclose what system they're using in small print, "but they can just switch groups to look for a positive angle," says FRC's Brown. He adds that he wouldn't blame the fund shops for using whatever system makes their funds look best. "Marketing peoples' jobs are to make money for the company by bringing in sales, right?"

Istvan thinks most fund firms won't abuse the situation, but acknowledges the problem. "I'm not sure there will be abuse, but having multiple systems can create apples-to-oranges comparisons and confusion," Istvan says.

Steve Lipper, a senior vice president at the fund tracking firm, defends the transition phase, saying that clients (fund firms, brokerages and media) are not all prepared to switch to the new system, which was first announced in December 1998 but not finalized until June. "Stopping cold turkey is probably too rigorous a shock for our clients," he says.

As for the possibility of confusion caused by a multitude of rankings systems, Lipper says, "We are not regulators and it's simply not our place to regulate what fund companies do [with rankings]."

Brown and Burt Greenwald, a Philadelphia-based mutual fund consultant, say they believe fund companies pressured Lipper into keeping the old classifications alive. "They readjusted their sights after they got a lot of static from the industry," Greenwald says.

"Some people are always looking for the cynical side of things," Lipper responds. "Fund companies that think they can hide in the old system or use the old, new and supergroup classifications had better be prepared to defend that practice."

According to a June FRC report, two of the three fund shops whose rankings were hit hardest under the new system were industry powerhouses Fidelity and Putnam. Neither Fidelity nor Putnam would comment on the new ratings. But David Kanihan, a spokesman for American Express (AXP Quote), whose funds also suffer under the new system, says his firm welcomes the new ratings and believes FRC's study was executed too early in the reclassification process to be conclusive.

	Slip Slidin' Away Fund families that lose the most ground in Lipper's new system
	Fund family	Old percentile rank	New percentile rank	Change
	AmEx Asset Management	43	75	-32
	Putnam Investments	46	62	-16
	Fidelity	26	38	-12
	Rankings are asset-weighted, one-year averages. Fidelity statistics include direct and Advisor funds. Source: Financial Research.

Beyond marketing and advertising concerns, Brown believes fund firms may have lobbied to keep the old system in circulation because many portfolio managers' salaries are tied to their rankings within Lipper's old system.

"Now that portfolio managers have agents like baseball players, they're already shopping themselves around quite a bit. If this system affects their pay it could create havoc," says Joel Davis, a senior financial planner with American Express Financial Advisors in Augusta, Maine.

Davis advises investors to focus on their goals and risk tolerance when building a portfolio, and to use any rating system as an informative starting point, not as a decision-maker. "With so many systems now, it's worse than it was 10 years ago. Always remember that [fund firms] can make the numbers say anything."