Morningstar has rolled out analyst ratings for 250 exchange-traded funds worldwide, 100 of which are U.S.-based.
The analyst ratings — gold, silver, bronze, neutral and negative — measures Morningstar's analysts and provides an assessment of a fund's ability to beat its peers. Morningstar has been using the ratings for open-ended funds for about five years. The analyst ratings evaluate a fund's people, process, performance, parent and price.
While cost is critical in an indexed product, which most ETFs are, the management team and the parent company are important as well, said Ben Johnson, Morningstar's director of global ETF research. “When we reach out to fund firms and say we want to interview the managers, they say, 'What, those guys?'” Mr. Johnson said. “But we want to understand who they are, their experience, the systems at their disposal and their team structure.”
In addition, a good team is essential for an ETF to track its benchmark accurately, Mr. Johnson said. Nevertheless, the people pillar of the ratings don't get the same weighting for ETFs as funds with active strategies.
None of 100 ETFs currently rated by Morningstar has a negative rating. “What you see there is a matter of selection bias,” Mr. Johnson said, noting that the Chicago-based analytical firm's initial ratings are for some of the largest and lowest-cost ETFs. Two foreign ETFs ranked by Morningstar, however did get negative ratings. “Those are large funds that hold a lot of investors' hard-earned money,” he said.
Eventually, Morningstar plans to rate 200 to 250 ETFs, which will represent more than 80% of the overall assets in ETFs. That leaves more than 1,500 funds unranked. “Calling many of them half-baked or quarter-baked might be generous,” Mr. Johnson said. “In many cases, they're just gimmicky concepts, which is nothing new in the fund industry.
With many of the new ETFs, the best rule is to avoid them, Mr. Johnson said. The larger, more established funds fill most investors' needs. “Everything you need is in front of your face,” he said. “It's not efficient to cover all ETFs on a one-by-one basis.”
In the U.S., Morningstar analysts assigned a gold rating to 18 ETFs, a silver rating to 38 ETFs, a bronze rating to 35 ETFs, and a neutral rating to 11 ETFs. You can see Morningstar's ratings for U.S. ETFs here.