What Do Morningstar Stock and Fund Ratings Tell Me?

TUTORIAL:Morningstar analyst ratings tell you not only about past performance but also about the likelihood that your chosen investment will outperform its competitors

Morningstar News Team 5 August, 2015 | 3:50PM
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Narrator: Welcome to the home page of Morningstar.co.uk. This fifth tutorial video of the series will help you make the most of our analysts’ research into stocks and funds when managing your investments to achieve long-term financial goals.

We’ll look at how you can use our analyst research into stocks, funds, investment trusts and ETFs. Let’s start with fund research.

This is the Old Mutual UK Equity Fund page. You can see that this fund has a Morningstar rating of 3 stars and an Analyst Rating of Bronze, but what does that mean? The star rating is a backward-looking rating; it measures the fund’s performance over the past three years, adjusts it for risk, and compares it to the performance of all other funds investing in the same area. A 1-star rating means the fund is amongst the worst performers, underperforming the average of its category peers over the past three years, while a 5-star rating means the fund has performed amongst the best in its group.

So in the case of Old Mutual UK Equity, its 3-star rating means the fund has achieved returns broadly in line with its sector peers over the last 3 years.

These star ratings are automatically assigned to OEICs and Unit Trusts, investment trusts and exchange-traded funds using the same risk-adjusted performance methodology.

What about the Morningstar Analyst Rating?

While the star rating is looking solely at past performance, the Analyst Rating is the summary of Morningstar’s forward-looking analysis of a fund. Analysts assign funds one of 5 ratings. The top three, Gold, Silver and Bronze, are all positive ratings and indicate that our analysts have assessed that the fund will outperform its benchmark and peers over the next 3+ years. The higher their conviction in the fund, the better the rating, with Gold obviously the highest accolade.

There are two more Analyst Ratings—Neutral and Negative. A Neutral rating is given to those funds that Morningstar analysts are neither overly positive nor negative on its future prospects. A Negative rating is given to funds that have at least one significant flaw that leads our analysts to believe it will underperform it’s  sector peers going forwards.

Analyst ratings and reports are available for all OEICs, Unit Trusts and investment trusts under coverage. Analysts also write in-depth research reports on ETFs but do not assign a rating on the Gold-to-Negative scale due to the passive management nature of these securities.

Let’s look back at our example to find out why Morningstar’s research team believes it is a Bronze fund, and learn a little more about how they assess each fund.  Click on the Morningstar Analyst Research tab of the fund report …

All visitors to Morningstar.co.uk can access our analysts’ summary research reports on funds under coverage for free simply by logging in to your free account, or registering if you’re not yet an account holder. For a small fee, Premium subscribers get to enjoy a much more in-depth research report that analyses each key aspect of the fund.

As a free user of Morningstar.co.uk you will see the analyst’s overview of why the fund has earned its Analyst Rating. This explains briefly how we have assessed the five key areas considered when rating a fund – it’s Investment Process, its historical Performance, the People managing the fund, the Parent company, and the Price or fees associated with owning this fund. These are the 5 key areas that we believe are crucial to predicting the future success of funds.

If you are a Premium member you get to enjoy the analyst’s full report, including a detailed breakdown of their assessment of each of these five key areas. This level of detail is not available to non-Premium members.

Old Mutual UK Equity’s Bronze Analyst Rating implies we believe this fund will outperform peers in the long term but it’s not what we would consider a ‘best in breed’ fund as these would boast a Gold rating.

We’ve briefly covered our fund research. Now let’s look at our stock anlaysis.

This is utilities company Centrica (CNA), the owner of British Gas. We can see that Centrica currently has a 4-star rating. It’s important to note that stocks are very different investments from funds, and so how we rate these security types is also very different. For stocks, our Star rating is not a measure of past performance, as it is with funds, but rather it is an assessment of whether the share price is currently expensive or cheap compared to our analyst’s valuation.

Morningstar’s equity analysts assess a number of core criteria and meet with company management as part of their research process.  Their comprehensive analysis of a company includes the firm’s competitive advantage, known as an economic moat here at Morningstar; what we deem the shares to be worth based on a discounted free cashflow valuation model; and any risks or uncertainties that prospective shareholders need to be aware of.

We then derive a Star rating for each stock by comparing its share price that day with our analyst’s own assessment of what the shares are intrinsically worth. If the stock is trading significantly below our fair value estimate it will receive a 5-star rating; if it is significantly above our valuation it will get a 1-star rating. And a 3-star rating means it’s trading broadly in line with our valuation.

All visitors to Morningstar.co.uk can see our star rating for stocks under analyst coverage. Only Premium members have access to our analyst’s share price valuation and accompanying research report.

Premium members can click on the Morningstar Research tab of any stock under coverage to read our analyst’s investment thesis, economic moat assessment, share price valuation, risk factors and insights into the company’s management. If you’re not a Premium member you can get instant access to all our analyst research when you take a free 14-day trial.

Morningstar Research on stocks and funds provides you with independent analysis to help you make better investment decisions and achieve your financial goals.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
Centrica PLC140.10 GBX1.05Rating

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