Morningstar STILL Does Not Get It

The crew at ETFReplay.com was kind enough to send me a link to the press release from Morningstar about their new fund rating system that they say will now be forward looking. So it turns out after all these years of collecting various fees from investors, backward looking wasn't the way to go?

The new system will be called Morningstar Analyst RatingTM (I believe they have added the word analyst) that will be based on the following "Pillars"; People, Process, Parent, Performance, and Price. Further down in the (very lengthy) press release it says that people are the managers and their tenure, process is the investment process, parent is the parent company and the last two probably don't need explanation.

Oh-boy.

Where the context is actively managed funds there is no way to look forward. "We think the manager will make a good call on industrials and other cyclically sensitive stocks in the fourth quarter." It is not credible to me that had this process been in place before they would have told people to sell Bill Miller's fund or Bruce Berkowitz' fund.

Assessing investment process is potentially interesting. Plain language about top down/bottom up, growth/value, some sort of screening process or anything else like this, if it is not provided already, would help people better understand what they own. It is not clear how this can be universally forward looking. Maybe something like "their screening process fared poorly in 2004 and we think 2011 is a lot like 2004" could add value (totally made up example in every respect).

The forward looking nature of the other three is lost on me unless people use technical analysis on actively managed mutual funds.

As a source of data the site is quite useful. As best as I can tell, after being peculiarly slow to try to do anything with ETFs they still appear to not really understand how to use the product (I was on a panel with Scott Burns once and he knows the mechanics extremely well).

There is simply no way to know what an active manager will do in the future or what might happen in his life that could somehow affect his job. Think about it, what stock or fund will you buy six months from now? If you don't know that for yourself then I assure you Morningstar can't know it for some actively managed mutual fund, let alone a whole universe of them.

The boiler plate of every fund provides a warning about past performance but how likely are you to buy a serial underperformer? The fund's past performance will, at a minimum, be a major driver in the decision. I don't find that dynamic particularly appealing and so I am not a fan of the wrapper but plenty of people are and part of the equation is an unquantifiable faith in the manager.