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Square Mile switches fund rating approach after FCA report

Money Marketing Service Ratings Square Mile has added two new research features to the funds recommended in its Academy of Funds following the FCA’s recent concerns on the effectiveness of rating agencies.

The FCA’s interim report on the fund industry, published in November, argued a high rating for a fund is not always a sign of a fund’s future performance.

The regulator showed that funds with the best ratings from popular third party ratings agencies such as Morningstar “do not significantly outperform their benchmark net of charges”.

Speaking to Money Marketing, Square Mile head of research Victoria Hasler says:”We wanted to include as much as information and opinion as possible on our fund fact sheets. There is more room to write about our opinions on the funds following our clients’ feedback.”

Square Mile’s rated funds within its Academy of Funds will now include a measure of their value for money relative to the peer group as well as their environmental, social and governance credentials.

The “value for money” section in the funds’ fact sheets, which uses the clean share class of a fund and the fund’s ongoing charge figure, has a bar graph showing the cost of the fund compared against the sector’s average costs.

The documents will also have a socially responsible investing section, which looks at the ESG factor of a fund.

“Although this is not necessary to show, clients want to know if the manager looks at this factor or not. A lot of investors just want to know if the manager is thinking about it”, says Hasler.

The fund ratings company says the new features added to its funds were “work in progress” for some time and are not in direct response to the FCA’s report. However it says the moveis clearly in line with the direction the FCA feels the industry should be going”.

Hasler says: “The FCA report talked a lot about grouping costs but we think that value for money is more important than just showing costs. We also put in a piece of text to say if a fund is actually value for money. The analyst takes into account performance and other data and highlights why the fund is value for money.”

FCA findings suggest that past performance and reputation are important drivers of retail investor choices and third party ratings firms are helpful tools for this purpose. The FCA says the evidence on charges is “mixed”, suggesting that some investors are more price aware than others.

Hasler says the Academy of funds will include more “outcome charts”, which depend on the fund outcome, such as income or inflation, as well as a chart showing the assets under management of the fund and how assets have grown through time to show any outflows.

She says: “We wanted to create a balance of things and not making it too complicated as people are put off by too much detail.”

Morningstar and FundCalibre

Elsewhere, FCA analysis in its report shows that investors react to changes in the Morningstar Star rating, which is one of the most used ratings systems. It found a change in star rating from not-5-stars to 5-stars “leads to a significant increase in the total net assets that are invested”.

It has also found that assets are concentrated in funds with higher Morningstar star ratings.

Morningstar UK director of manager research Jonathan Miller says: “Price is one of Morningstar’s five pillars when we assess a fund. It’s been a cornerstone of our fund research since day one and is highlighted in our fund reports as either Positive, Neutral or Negative.

“This is based on the OCF in the category and also takes into account performance fees and their potential impact.”

Morningstar has recently added a Sustainability Ratings, which are displayed whenever an user searches for a fund in its products or on its website.

FundCalibre managing director Darius McDermott says the firm shows charges but doesn’t show comparisons with a fund’s peer group.

It includes ESG factors “where appropriate” and if part of the investment process, but not for every fund as “there is nothing pertinent to add in some cases”.

McDermott says: “As far as the FCA report we are comfortable we are doing things correctly and in the interests of investors already so no material changes. We are of course keeping abreast of regulatory requirements.”

Fund Calibre will start rating investment trusts in the new year and extend its services to advisers and not only directly to consumers.

Neither Morningstar nor FundCalibre have commented on any other features they plan to add to their rating processes.


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There are 4 comments at the moment, we would love to hear your opinion too.

  1. Morningstar Research 9th December 2016 at 12:00 pm

    There are two different Morningstar ratings covered in the FCA research. Star ratings are backward looking, quantitative and based on performance. Morningstar Fund Analyst Ratings (based on five pillars) are forward looking and qualitative as well as quantitative. The FCA paper highlights that only the funds rated as Gold, Silver or Bronze by Morningstar analysts have outperformed after charges. Other “best buy” panels (HL and the like) and funds rated highly based on quantitative measures (Crown ratings) were found to underperform after charges.
    As many IFAs tend to use the Morningstar analyst ratings, we might read from the FCA research that an average client in the UK would be better taking (and paying for) independent financial advice as opposed to going to an execution only service that’s publishing best buy lists.
    There are some shortcomings in the FCA paper, however the investment research is enlightening.

  2. At the risk of sounding naive but why do the ratings agency not tell the FCA to go do one? The FCA don’t regulate them so why would any ratings agency change anything simply because the FCA report makes criticism about them. Or have I got my point wrong and the FCA do regulate the ratings agencies? Don’t see anywhere on any of the websites that they are authorised and regulated by the FCA (or PRA for that matter). The FCA make enough c*ck ups over the industry that they are supposed to know about and regulate without them trying to start in to totally screwing up an industry it has sweet F A to do with.

  3. I am glad to see Morningstar responding to this now and pointing out the facts. Quite frankly, star ratings are not a guide to future performance (don’t all our investment communications to client confirm this point), but the analyst ratings are, and the FCA says that these do work.

  4. McDermott says: “As far as the FCA report we are comfortable we are doing things correctly and in the interests of investors already so no material changes. We are of course keeping abreast of regulatory requirements.”

    I can’t see one passive fund on the FundCalibre Elite range which seems very odd. Was this not what the FCA were saying? Why no Lifestrategy, why no US/UK/Global funds etc etc? Seems very conflicted given the evidence to support such strategies.

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