Morningstar Magazine - February/March 2018 - 49

EXHIBIT 3

Rating the Rating, Global Edition The Analyst Rating performed well against category
averages and indexes. When we accounted for risk, it did even better.
Cumulative Excess Returns vs. Category Average
Asset Class

Months From Rating

Œ

„

´

‰

Á

Equity

12

0.89

0.42

0.41

0.26

-0.78

36

1.86

0.95

1.13

0.67

-1.72

60

3.49

1.91

2.07

1.70

-1.19

12

1.55

0.73

0.76

0.53

-0.28

36

4.18

2.20

2.42

1.67

-1.40

60

7.15

5.88

3.34

3.60

-2.14

12

0.53

0.70

0.53

0.33

0.24

36

1.32

2.09

1.60

0.65

-0.33

60

2.19

3.23

2.40

0.73

0.71

12

0.96

0.52

0.49

0.33

-0.55

36

2.22

1.34

1.40

0.85

-1.48

60

3.97

2.60

2.28

1.78

-1.10

Months From Rating

Œ

„

´

‰

Á

Allocation

Fixed Income

Universe

Cumulative Excess Returns vs. Category Index
Asset Class

Equity

12

0.14

-0.20

-0.34

-0.23

-0.75

36

0.12

-0.60

-1.00

-0.75

-2.06

60

0.38

-0.82

-1.41

-0.92

-2.39

12

0.49

-0.11

-0.22

-0.52

-1.11

36

1.57

0.07

-0.56

-1.08

-2.78

60

2.39

0.67

-2.82

-2.99

-6.32

12

0.22

0.20

-0.24

-0.41

-0.15

36

-0.44

-0.37

-1.43

-1.98

-1.47

60

1.26

0.32

-1.30

-1.69

-0.34

12

0.22

-0.11

-0.30

-0.32

-0.79

36

0.30

-0.47

-1.02

-1.03

-2.17

60

0.92

-0.46

-1.54

-1.35

-2.78

Months From Rating

Œ

„

´

‰

Á

12

1.16

0.70

0.35

0.14

-0.84

36

0.70

0.38

0.16

-0.12

-0.60

60

0.89

0.50

0.20

0.08

-0.19

12

0.78

0.31

-0.29

-0.49

-0.93

36

0.60

0.16

-0.64

-0.69

-1.17

60

0.63

0.54

-0.45

-0.75

-

Allocation

Fixed Income

Universe

Annual CAPM Alpha vs. Category Index
Asset Class

Equity

Allocation

Fixed Income

Universe

Source: Morningstar. Data as of 10/31/2017.

12

0.64

0.69

0.21

0.11

0.04

36

0.18

0.36

-0.06

-0.34

-0.32

60

0.47

0.62

0.29

-0.04

0.18

12

1.00

0.65

0.23

0.02

-0.79

36

0.59

0.35

0.03

-0.26

-0.67

60

0.76

0.52

0.17

-0.04

-0.17

but are generally less in magnitude. Here, too, the
Analyst Rating appeared to succeed in sorting
funds, in aggregate, with Gold-rated funds beating
the relevant category indexes, on average,
by a greater margin than any other cohort over
the 60-month event horizon. That said, we found
that performance was mixed, especially at the
asset-class level. Indeed, the average Gold-, Silver-,
and Bronze-rated equity funds failed to beat the
category index over the 60-month event horizon.
Medalist funds in the allocation and fixed-income
asset classes fared considerably better,
notching positive excess returns, but Neutral- and
Negative-rated bond funds did even better
than higher-rated funds versus their benchmarks.
The results improve considerably when we
measured predictiveness based on future
risk-adjusted performance-that is, annualized
CAPM alpha versus the relevant category index. As
the bottom table in EXHIB IT 4 shows, Goldand Silver-rated U.S. funds notched positive alphas,
on average, over the 60-month event horizon.
The improvement was even more pronounced
within asset classes. For example, the CAPM alpha
for Neutral-rated fixed-income funds lags those of
medalist bond funds over the 60-month event
horizon. Indeed, sorting improves nearly across the
board when predictiveness was measured.
That said, we'd note some disappointments in
the findings. First, the average Negative-rated fund
earned a positive CAPM alpha over each event
horizon in the aggregate sample. Given that
our analysts reserve the Negative rating for funds
they have the least conviction in, this showing
is disappointing. Second, the average Bronze-rated
fund failed to generate positive alpha and
performed more or less in line with the average
Neutral-rated fund over each event horizon.
Third, medalist performance among equity funds
was very uneven. The average Gold-rated fund
produced alpha and topped other cohorts
over the 60-month event horizon, but the average
Silver- and Bronze-rated fund fell short.
Opportunities for Improvement

One of the main reasons we conduct performance studies like these is to transparently assess
how well our ratings have done and identify
strengths and weaknesses that we can build upon.

global.morningstar.com/Morningstarmagazine

49


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