Finding the right investments can be a daunting process. To help alleviate the burden of choice overload, Morningstar has created an array of tools to help investors assess an investment's key characteristics at a glance.
The Morningstar Style Box for funds (OEICs/Unit Trusts), for example, helps you quickly see how a fund actually invests the bulk of its assets. Meanwhile, the Morningstar Rating for funds, introduced in 1985, helps investors quickly gauge how a fund has balanced risk and reward. We've since introduced star ratings for individual stocks and exchange-traded funds, and we're working on extending this service to include closed-end funds.
There are some important distinctions between these ratings, and it's important to bear them in mind if you're using these ratings as part of your security-selection process. To help shed light on the key similarities and differences, we'll provide a brief overview of what the star ratings indicate for each investment type, how they're calculated, and how to (and how not to) use them.
Star Rating for ETFs
Snapshot
The ETF star rating is largely identical to that of the Morningstar Rating for funds. However, we don't just compare ETFs with other ETFs for the purpose of the rating. Because the traditional fund universe is much larger and forms a more representative peer group for comparisons than does the ETF universe, we use both peer groups as the competitive universe when calculating ETF star ratings. For example, a mid-cap blend ETF would be compared alongside other mid-cap blend ETFs as well as traditional mid-cap blend funds for the purpose for the star rating.
How It's Calculated
We use basically the same methodology for both traditional fund and ETF star ratings. However, in order to make ETF star ratings directly comparable to open-end funds, Morningstar uses an ETF's total return based on changes in its net asset value rather than its market price total return. (Please note, however, the two statistics can differ, as referenced in this article.)
How to Use It (and How Not to)
ETF star ratings, like those of funds, rely on historical data, which means that investors should not rely on them to forecast future performance.
Rather, investors who are shopping for ETFs should also be mindful of other considerations, including strategy (particularly for actively managed funds), tax efficiency, trading costs, and expenses. Morningstar's ETF Analyst Reports do a nice job of summing up all of these variables.
Click here to read about Morningstar's Analyst Ratings for Fund.
Click here to read about Morningstar's Analyst Ratings for Investment Trusts.
Click here to read about Morningstar's Star Rating for Funds.
Click here to read about Morningstar's Star Rating for Investment Trusts.
Click here to read about Morningstar's Star Rating for Stocks.
