In Defense of Mutual Fund Ratings
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Thursday, October 09, 2014

In Defense of Mutual Fund Ratings

Staying on top is hard, perhaps even more so for mutual fund PMs. We all know the mantra about past performance and future results. But that doesn't mean performance-based mutual fund rating systems are meaningless. Active fundsters, take heed.

So argues Morningstar guru John Rekenthaler in his latest "Rekenthaler Report" column. The performance of active mutual funds, and the ratings systems used to compare that performance and tout the winners, have been under fire of late, with the criticism rising all the way to the Wall Street Journal. And Rekenthaler is not buying it.

Rekenthaler concedes the point, made by the WSJ and others, that top-rated (and thus top performing) mutual funds, even top-rated index funds, do tend to fall from their positions. But he goes through the data (from Morningstar originally, which the WSJ then used as evidence) to show that top-rated mutual funds, at least in the time period examined here (July 2004-July 2014) did have a higher average star rating at the end than other mutual funds. And all of the ten biggest five-star funds from 2004 outperformed over the next decade. All of them.

So, top-rated mutual funds may be unlikely to beat everyone forever, but they fare better, on average, than the average fund.

"In this article's study, the typical winning fund from a decade ago remained above-average, and each of the 10 largest outgained," Rekenthaler writes.

And that, fundsters, is quite an argument for considering past results.

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