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By Holly Cook| 1-6-2012 12:00 AM

How Our Investment Trust Research Can Help You

As Morningstar unveils its first round of qualitative ratings for investment trusts and other closed-end funds, we join the AIC to discuss this exciting development

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Dea Markova: Morningstar's quantitative, risk-adjusted ratings for investment trusts and other closed-end funds have been helping investors make better portfolio decisions for over 10 years now. In an exciting new development, Morningstar U.K. is now launching qualitative, analyst-driven ratings that are going to have both positive and negative scale for those investment trusts that our analysts may deem to be sub-par. Joining me here today to discuss this initiatives are Ian Sayers, who's Director General of the Association of Investment Companies; Jackie Beard, Director of Closed-End Fund Research for Morningstar U.K., and Peter Toogood, Investment Services Director for OBSR, a Morningstar Company. 

Ian from your perspective, this must be a welcome increase in interest towards investment trust particularly with RDR kicking in? 

Ian Sayers: Well, I think it is a positive thing for the sector. I mean investment companies have had difficulty being recommended by financial advisors in the past partly because of the commission issue and that’s all being stripped away by RDR. So I think there will be increased interest obviously in order for advisors to make recommendations based on that they are going to need access to good quality information and also understanding of the product itself. 

Markova: What are the areas you doing to improve investor understanding of investment trusts.

Sayers: Well, to help them sort of understand the basics of investment companies, we are offering a free training program on the AIC's website, it's an online training program which takes advisors through from the basics but right up to the level four standards, they call it the new standards, the highest standard that’s going to be required of advisors post RDR. 

Markova: And how has the AIC helped Morningstar in their quest to greater transparency? 

Sayers: I think the transparency is extremely important. Advisors do need to have information to be able to select products. I think there is two sides to it. I think one thing is they need robust high-quality information. We work very hard with Morningstar and AIC together to produce that kind of thing, everything from statistics right through to one of the things we can work on which needs, to get full details of portfolio holdings, so advisors can see the sort of underlying asset allocation. 

I think the other thing that is very important is, having sort of comparable information. In the past, things have been a bit, do you want a unit trust, do you want an investment trust, you make that decision and then you get shunted off to different parts of the world with different kinds of information. I think one of the great things that Morningstar has done, is to say, actually what you want is, information that can be comparable right across products so that advisors – from a consumers perspective, what they want to know is, what's the best fund in a particular sector. They're not so worried about the structure. So I think having comparability is extremely important. 

Markova: Jackie, can you tell us a bit more about why has Morningstar decided to take this initiative and why now? 

Jackie Beard: We think we're extremely well placed to do this, first of all we have a lot of data sources that we can bring together, so we're using data from Fundamental Data, we're taking information from Company Intelligence and what we're trying to do is, package it into one fully comprehensive report. So an advisor has everything they need in one place. 

Markova: So who are these ratings for and how can they be used? 

Beard: They're for all Morningstar's clients. So right through from individuals, advisors and institutions. 

Markova: And how can they be used? Can they be used in conjunction with quantitative ratings? 

Beard: Yes, they can. We've made some changes to our star rating methodology. So we've changed it from calculating on price to NAV and back to Ian's point, it's about that comparability because it's very hard to compare a fund manager, if you're not doing it on a like-for-like basis. If we level that playing field and look at NAV because that’s the bit the manager has influence over, then it's much easier to make sensible comparisons. 

Markova: And in what way is the research that your team is doing different than other research into investment trusts, that’s already out there? 

Beard: I think we're in for a slightly different objective. We are looking at long-term fundamental, is this a good or bad manager, are they using a process that’s good or bad. Is it translating through to long-term outperformance? We're not trying to put timing decisions on this because I think that’s a very different decision and that’s where Peter helps clients a lot more. It's all about, does this package make sense, is it going to deliver long-term outperformance, whether or now is the time to buy it, separate decision. 

Markova: Jackie, you are starting with qualitative ratings for 32 investment trusts. Can you tell us a bit more about, how this list was put together and what are your plans for the next 12 months. 

Beard: First of all we looked at asset under management on the basis that, probably the larger funds are the most liquid, liquidity is going to be an issue for some clients and then it's about data, so part of this initiative Ian referred to, getting portfolio holdings, if we don’t have full portfolios coming to us in a regular basis, we just can't make an assessment of that fund. So that’s being the case, so those companies who are cooperating with us and willing to provide that transparency have been first in the list. And then it's also being about access to fund managers. Some people are giving us data, but we haven’t yet managed to get into see them, and vice versa. Some people are very willing to talk to us, but actually when it comes about, aren’t giving us the data. So this list of 32 is literally the tip of the iceberg, but it’s the ones, who have been the most willing to cooperate thus far. 

Markova: And do you anticipate any challenges in expanding your coverage? 

Beard: We've got a target list for the end of the year of roughly another 70 odd funds. I'd say two thirds of those are giving us data already and I think we're going meet a bit of resistance along the way. I think probably some of the larger maybe family run self managed companies have yet to understand exactly what it is we're doing but we're helping that. This launch is going to raise that prominence. And make them understand that what we're doing is a good thing for the industry. 

Markova: Peter, from client perspective how can these ratings be used? 

Peter Toogood: That's comparability. That's the key. There is two things that has been missing. I think transparency. People haven't actually understood what they are suppose to assess. So they are more complex instruments. That's the first part. So you have to have consideration for more than just the investment process. There is hearing. There is the Board of Directors. This is sort of things that don't register for the advisory's key elements which you bring to the reports Jackie's team produced. You can actually see them in one place. That's actually very helpful because if we look at RDR, what does RDR say you've got to be clear about what your decision is and what made you make the decision. So that's quite key. 

It's just the basic transparency, number one and comparability, number two. You can actually take into this. Jackie said assess the longer term perspective, not whether it's a premium discount where you should buy emerging markets today, and Europe tomorrow. Actually, if you want an exposure to a market or an asset, is this the appropriate vehicle to do it through. Has it shown itself to have longevity? Is the management structure correct? Will it achieve the objectives et cetera so very much this sort of Morningstar methodology of outstanding funds. And the FSA were very clear. Last year, you've got to start considering these. That's actually quite a warning shot across it. They didn't have it before. 

Where our demand is coming from, from where we're seeing it, the investment – the insurance companies are coming to us and saying actually we want to put this on our platform, how can we help advisors make decisions around investment trusts? So the demand's two fold, it's one the FSA have said you need to look at them as an advisor and insurance companies and the distributors are saying actually we need to help the underlying advisors to make decisions as well. So it's a big demand driver, it's very exciting. 

Markova: In what way, do you think they will help comparison between closed-end funds, ETFs and open-end funds and ultimately enabling the construction a better portfolios? 

Toogood: I think it brings investment trusts on to at least a playing field. First of all, it's passive versus active decision and then what active vehicle and if you have a longer term duration mindset, there are virtues in accessing investment trust vehicle because of the nature of what it is in the way it does its investing. It doesn't have to have that very short term mentality that's investment trust they have to do often by the daily price. 

Investment trust can take a different view. Why will they serve originally to access in a longer duration assets when emerging markets first became prevalent, it's mostly the closed-end route because of no liquidity and there wasn't that daily demand and that still is a virtue particularly as things get more liquid and markets are getting less liquid, not more liquid. So let's remember it could be quite useful to access that way. 

Markova: Ian, how do you think the industry would respond to this demand for greater transparency? 

Sayers: I think they are responding pretty positively. There is still some way to go and we did want to make sure that we get the vast majority of industry reporting all the information that the clients want to say. So I think they will respond and I think most of boards are aware that the retail distribution for example is moving into different world. It's a world where there are requirements to different kinds of information and it's also much, much more competitive world and there is a whole range of funds out there that we've mentioned ETFs that are coming, there are open-ended funds et cetera and we have to make sure that we can fit our information into the models that Morningstar developing other people as well, but I think they are up for that challenge. It's a different world that they are moving into, but I think it's a positive one but you've got to get your message across. 

People only think that the demand is just going to come because of RDR and rules and regulations are very, very important, but you've got to get your message across and transparency is an absolutely key part of it. It's not whole of the message but it's an absolutely key part of it. 

Markova: Jackie, what else is Morningstar doing to improve the investor education? 

Beard: Well for 18 months already we've been building contents on our website. So a lot of very basic educational content, what is an investment trust, how does it differ from its bids, how is it different structurally from an ETF and so on. That's very static content so those are the real building block s and we've also been producing articles trying to start looking at performance and will be doing more of these over time and on top of these we've been talking to a lot of advisors. We've been going around the country in conjunction with the AIC as well at times, just talking to people about them and really trying to raise their profile. 

Than we've had an industry initiative with JPMorgan and Aberdeen where we're doing a series of monthly webinars that went on all through last year. We've already set plan for this year. We have an agenda together and it's anything to try and just raise their awareness. We're not trying to run them down people's voice which is saying 'hey look, this is something you should be considering as an alternative'. 

Markova: Finally, you've been talking about these rankings for long where can investor's find them. 

Beard: The ratings are going to be available across our entire suite of products. So any Morningstar product that you might across they will be in that for people to see. 

Markova: Thank you for making that clear and thank you all for joining me today. For Morningstar, I'm Dea Markova. Thanks for watching.

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