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Understanding Investment Report Cards

written by: •edited by: Jason C. Chavis•updated: 6/16/2011

Rating companies like Morningstar and Lipper often issue report cards on various mutual funds. There are other reports available that talk about the performance of these investment firms. Understanding what these reports mean and the terminology is helpful for new investors.

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    Rating Investments: Morningstar

    Investment Banks The stock market is a risky proposition for most shareholders. Understanding who rates investment firms and the process they use may provide investors with crucial information to enable them to make wiser investment decisions. Morningstar was one of the first rating firms to begin evaluating investments with a focus on mutual funds. Founded in 1984, the firm is based on the belief that shareholders and investment advisors needed specific information in order to determine the stability of mutual funds.

    In the years since their founding, Morningstar has become a trusted source of rating information. In fact, in 2011 it is estimated that they serve 7.4 million individual investors, 245,000 financial advisors and 4,200 institutional clients, providing them with vital information.

    Morningstar takes into consideration a number of factors for rating mutual funds, stocks, bonds and the overall stock market. In addition, they also evaluate various retirement plans including 529s, 401ks and IRA plans. Regardless of what type of investment is being considered or the level of knowledge, investors, investment advisors and market specialists can each find what they need from Morningstar.

    Some of the factors that Morningstar considers is fees, the management team, trading costs and long term performance. Recently, Morningstar announced they will change their rating from a star rating to a letter based rating which will help investors make better decisions.

    Morningstar does not accept advertising from any funds that they promote; they are there to assist investors of all sizes from beginners to seasoned investors to help them make better investment decisions.

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    Lipper Mutual Funds Ratings

    Lipper was founded in 1973 and later was purchased by Reuters. In 1984, Reuters was acquired by Thomson and Lipper became part of the Thomson Reuters family. They have dedicated themselves to providing investors and investment bankers with information that allows for comparison between various mutual funds dependent on the type of investments the fund undertakes. Lipper has offices in Europe, the United States, Asia and the Middle East. Each year, they publish a list of the "Lipper Leaders" which reflects their choices of funds that performed the best.

    Lipper performs an in-depth analysis on mutual funds, hedge funds and index funds. They base their research on specific data including expenses, consistent return on investment, preservation of investment capital, total return on investments and in the case of US funds, tax efficiency. The funds are rated on a monthly basis in groups of 20% of evaluated funds per category. The top 20% are designated Lipper Leaders, the next 20% are rated as fours, and so forth until the last 20% are rated one.

    Report cards on mutual funds are published on a monthly basis and include data for the prior month, the prior year and, if available, includes 3-year, 5-year, and 10-year period evaluations. Lipper is emphatic about advising investors and investment bankers that these rankings are based on prior performance and not necessarily indicative of future performance potential.

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    Standard and Poor’s Ratings

    Standard and Poor's is a common name among bond investors as they have been known to rate issues of bonds based on credit criteria. Standard and Poor's is the oldest rating agency in the United States and also has offices in 23 other countries. While S & P in the past evaluated primarily bonds, they have since branched out and they also evaluate mutual funds, hedge funds and insurance companies.

    S & P reviews more than 1,600 mutual funds based on unique criteria from other rating services. These include the management teams style, investment objectives, the background of the investment team, the opinions of analysts, overall investment philosophy and performance and portfolio review. This makes them rather unique in rating investment firms.

    While Standard and Poors is the oldest rating company in the United States, their work with investment firms is far more limited than other rating services.

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    Importance of Investment Ratings

    While the flood of investment bank ratings may be confusing to investors, they are good tools to have when making investment decisions. It is common to find ratings such as Morningstar on sites like Yahoo! Finance and other similar sites that offer stock quotes and investment information.

    Investments in stocks, bonds and mutual funds can help an investor save for retirement. By understanding who rates investment firms, the average person can make good decisions. Independent ratings are typically more beneficial to an investor than a direct recommendation from a stock broker. In all too many cases, brokers (who are paid by their clients) are often encouraged to promote certain products or investment vehicles. Investors who have the knowledge of where to find independent ratings can get an unbiased review of the funds that they are considering. While having this additional information may not protect an investor from losing money, it can provide a clearer picture of the companies overall standing.

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    Resources

    Sources

    1. Morningstar: http://corporate.morningstar.com/US/asp/home2.aspx?xmlfile=7083.xml
    2. Lipper: http://www.lipperweb.com/Default.aspx
    3. Standard and Poors Guide to Credit Rating Essentials (PDF) http://www2.standardandpoors.com/spf/pdf/fixedincome/SP_CreditRatingsGuide.pdf
    4. S & P Fund Management Ratings http://www.standardandpoors.com/products-services/FMR/en/us

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    Harris Trust & Savings Bank Logo Via wikimediacommons.org/public domain