Fundcos free to promote Morningstar ratings

Canada’s securities regulators have ruled that fund companies can advertise Morningstar’s popular star ratings system for mutual funds. The fund research company created its own set of ratings categories last year after withdrawing from the Canadian Investment Funds Standards Committee.

Since Morningstar’s ratings are compiled from data that do not directly correspond to standard performance periods as defined under securities rules, regulatory relief was required in order to cite those ratings in advertising. The Canadian Securities Administrators granted that relief in a release issued on Monday.

“The basis of generating Morningstar Star Ratings is consistent from mutual fund to mutual fund and captures a quantitative assessment of a mutual fund’s past risk-adjusted return, presented relative to its category,” the CSA said in an exemption order granted specifically for BMO, but one that will apply to all prospectus-based mutual funds in Canada.

“The ruling is a recognition that the new Morningstar Canada fund category system provides a reasonable, objective and appropriate basis for investors and financial advisors to make comparisons among funds,” said Scott Mackenzie, president and CEO of Morningstar Canada.

To comply with the ruling, Morningstar has agreed to provide a one-year rating, in addition to ratings now published for three, five and 10-year periods. However, Morningstar will not publish one-year ratings on its website or in its fund analysis tools such as the PALTrak software. The regulators also agreed to scrap a requirement for a “since inception” fund rating, agreeing with Morningstar that it could be misleading to investors and “undermine the comparability of the resulting information.”

Fund companies that choose to include Morningstar ratings in their sales communications must abide by a number of conditions set out by the CSA, including an overview of Morningstar’s rating methodology and an explanation of how the star system works.

“The ruling is consistent with the regulators’ view that a fund category system need not be a national monopoly to serve investors well,” said Morningstar investment funds editor Rudy Luukko in an online report. “The ruling makes it acceptable for Morningstar to either maintain proprietary categories or, should it decide to do so in the future, to create common categories in co-operation with CIFSC or through similar collaborative arrangements with other fund measurement firms.”

Although Morningstar has split from the CIFSC, there are indications that the rift may no be permanent. Discussions are continuing to re-establish a common category system for mutual funds, with another meeting scheduled for this week.

“A common industry standard for fund categories is highly desirable, and we are working with CIFSC member firms toward achieving that goal,” Mackenzie said.

Filed by Doug Watt, Advisor.ca, doug.watt@advisor.rogers.com