Morningstar has come a long way from its origins as a quarterly newsletter produced in founder Joe Mansueto's Chicago apartment.
That was 33 years ago, back when it took persistent effort just to get fund companies to publish the names of their portfolio managers.
These days, thanks largely to the pioneering efforts of companies like Morningstar, the financial services industry is flush with all manner of investment product detail and ways to evaluate those products.
At Morningstar, the evolution has been near constant, but the latest development is one that some might never have imagined from a company colloquially known as a "fund-tracker."
Later this year, Morningstar plans to
launch its own mutual funds, which will be designed specifically for financial advisers.
Even though the funds will essentially just involve putting registered wrappers around
managed portfolios the company has been managing for 17 years, the move into the mutual fund space has raised questions about whether Morningstar has crossed a line.
During a recent
debate on Twitter, Todd Rosenbluth, director of mutual fund and ETF research at CFRA, challenged Morningstar's ability to stay objective as a fund-rating agency.
"In baseball, the umpire does not take a turn at bat," he tweeted. "Independent research should be without question of conflict."
Among those chiming in was Matt Hougan, chief executive of InsideETFs, who politely pushed back against Mr. Rosenbluth's challenge.
"I don't get all the hoopla around Morningstar launching funds when they've run indexes for years," Mr. Hougan tweeted. "Indexes are the new active managers, anyway."
It seemed like a perfect opportunity to let the two respected analysts vent beyond a 140-character tweet.
In separate conversations, Mr. Rosenbluth and Mr. Hougan were asked to explain where Morningstar's plan to manage mutual funds might be getting it right or wrong.
InvestmentNews:
Has Morningstar crossed a line by launching its own mutual funds?
Todd Rosenbluth: Advisers look to independent fund research from a broad range of firms to provide an objective view on the products they are considering investing in or that are part of client portfolios.
Yet, the soon-to-be launched Morningstar-branded mutual funds are expected to ultimately achieve a
Morningstar star rating and will be part of certain style classifications, impacting the overall quantitative rating and relative performance ranking on all peer products.
If an umpire took a turn at bat, the players and the fans would question whose side he or she were on.
Matt Hougan: Morningstar is about more than just its star ratings; it's a financial behemoth. It's a leader in ratings, data, research, workflow, commentary, investment management, indexes and much more. It does a lot of things well.
This is an old story. If people were worried about impartiality, they would have worried about Morningstar rating ETFs based on Morningstar indexes. Did anyone complain about their 4-star rating on the VanEck Vectors Morningstar Wide Moat ETF (MOAT)? Not really, because "star ratings" are quant-driven. People don't care!
Morningstar now offers qualitative ratings alongside its quant-based program, but it doesn't plan to issue qualitative ratings of these new funds. Arguing that they could massage the quantitative ratings by looking at which category they assign funds to is far-fetched. Any attempt to slant that process would be transparent and dumb, putting a massive business at risk for a tiny potential gain.
IN: How is launching mutual funds different from the managed-account platform Morningstar has been running for the past 17 years?
TR: The managed-account program was self-contained and did not impact the mutual funds and ETFs the firm was already rating. However, advisers look to third-party star ratings to help them sort through the growing universe.
We think that adding in active funds that Morningstar will have discretion over the securities inside muddies the water. Asset managers might question whether to license a star that was impacted by the research provider's own offerings.
MH: It's not much different. And honestly, the real story here is about that managed-account platform.
I doubt Morningstar is launching these funds because it thinks fund-level management fees are going to be massive revenue drivers. The funds business is brutal.
In my humble opinion, this is as much about giving it a competitive edge, or a moat, in Morningstar parlance, for its managed-account platform as it is about entering the funds space.
IN:
How is rating its own mutual funds different from the way Morningstar already rates ETFs that track Morningstar indexes?
TR: Funds that are based on a Morningstar index, such as iShares Morningstar Large Cap ETF (JKD), follow well-defined rules and are transparent when the changes are made.
Active mutual funds need not provide the same disclosure as index-based ETFs that CFRA ranks. Further, JKD is managed by iShares and what ends up inside the fund is determined by a separate asset manager than the company providing the rating. It is hard to be objective about a product your firm is actively managing.
MH: It's not different at all. Indexes are the intellectual property driving ETFs, and Morningstar has been a strong player in the ETF indexing space for many years.
IN:
If this cuts costs, as Morningstar says it will, isn't that ultimately a good thing for investors?
TR: Yes, the lower the fees a product charges, the more money that is put directly to work to help achieve financial goals. In addition, funds that are expensive will have greater challenges to keep up with peers and/or an index. In CFRA's mutual fund research, a fund's expense ratio is part of the due diligence process, and we think advisers should find funds that have had performance success, hold securities that make sense in the current environment and have lower costs.
However, fees should not be the only reason to select a fund, and advisers should make sure that what's inside fits with their objectives.
MH: Unequivocally, yes. Remember, Morningstar itself published a research piece arguing that low costs are a more important predictor of future returns than its own ratings.
IN: What does this move into mutual fund management suggest about the future of Morningstar?
TR: Morningstar competes with both CFRA Research, Inside ETFs and other firms that focus on providing adviser education tools and events. However, Morningstar has branched out to focus on other priorities.
With money increasingly flowing toward lower-cost passive products and away from more expensive products, asset managers have been cutting expenses and rolling out new products to better meet the priorities of advisers and end investors.
Morningstar's actions will further push them into the asset management world, competing with BlackRock, Vanguard, Fidelity and others.
MH: Well, it would suggest Morningstar's goal is offering an end-to-end solution for clients. With the leadership transition, I'd expect to see Morningstar test out other areas of that end-to-end solution and see what sticks.
They are dominant in adviser-level research, data and commentary, so they need to expand their business horizontally into managing assets, trading or other areas, or vertically by scaling into the institutional space at a greater level than they are today.
They'll probably end up doing both!
