Investment Strategy
We seek to pick winning funds with superior management and quantitative characteristics linked to strong performance. Our quantitative research uses the most comprehensive mutual fund database in the world to determine the best strategies for long-term investing success. We then supplement those studies with extensive qualitative research of portfolio managers, analysts, and traders through onsite visits and follow-up phone calls.
About the Editor
Russel Kinnel is director of manager research for Morningstar, Inc. and editor of Morningstar FundInvestor, a monthly print newsletter for individual investors. He also writes the Fund Spy column for, the company's investment Web site.

Since joining the company in 1994, Kinnel has covered the Fidelity, Janus, T. Rowe Price, and Vanguard mutual fund families. He helped develop the new Morningstar Rating for funds and the new Morningstar Style Box methodology. He also is co-author of the company's first book, The Morningstar Guide to Mutual Funds: 5-Star Strategies for Success, which was published in January 2003.

Apr 26, 2018
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Russel Kinnel,
Director of Manager Research and Editor, Morningstar FundInvestor
Russel Kinnel is director of manager research for Morningstar, Inc. and editor of Morningstar FundInvestor, a monthly print newsletter for individual investors.
Featured Posts
From Good to Gold
How does a fund earn a Morningstar Analyst Rating of Gold? It isn't easy. The fund has to rate highly on nearly all five Pillars: People, Process, Price, Parent, and Performance. The road to earning a Gold rating usually lacks the obvious trigger of funds that we downgrade. Manager changes rarely lead to upgrades.

But that doesn't mean things aren't going on under the surface. You want your doctors, pilots, and dentists to be experienced, yet you probably can't point to the exact date when that happens. In our case, it's often a matter of seeing a manager through more environments. It's not just about performance; it's also about if these funds live up to their stated strategies. Some of this you can judge right away, but other aspects take some time.

Likewise we also look at the supporting analysts for sufficient experience, skill, and stability. A firm may have a wave of departures of managers or analysts, and it takes some time to be assured that things have changed.

All this is a way of saying that subtle but real changes can get us to a Gold rating. Let's look at several funds that recently made the grade.

It's been a long uphill climb for PIMCO Total Return PTTRX, but we just raised it to Gold on April 24. We cut it to Bronze in the wake of Bill Gross' departure in 2014. At that time, investors were fleeing the fund in droves. But a funny thing happened. Investment professionals at PIMCO didn't flee. In fact, the rate of departures has slowed since Gross left, and a couple of managers who appear to have left because of conflicts with Gross actually returned to the fold.

That stability is a great sign of buy-in from key personnel, but we also watched closely to see how things would work with the three comanagers running the fund. PIMCO named Scott Mather as lead with support from comanagers Mihir Worah and Mark Kiesel. In addition, Dan Ivascyn was named chief investment officer and thus was another important voice in the fund's direction.

It's not easy to build a functional and cohesive team, so we wanted to wait and see how things worked out. Over the course of many conversations and visits, we've seen that the team has come to work well together, and that has been borne out in results. We raised the fund to Silver a year ago and now to Gold as we see it's on a par with the best in the intermediate-bond category.

It's still a rather wide-ranging fund that makes an array of macro and micro calls using securities and derivatives. Performance has been solid, but it's really that cohesion of people and strategy that led us to elevate the fund to Gold.

Western Asset Core Bond WATFX was raised to Gold from Silver in late 2017. Western Asset is a well-known bond firm that mostly runs money for institutions. It has historically owned more spread product than peers and benchmark alike and generally made quite a lot of money for investors doing just that. Spread product is industry jargon for bonds that pay yields above Treasuries in order to compensate for risk, including corporate bonds, nonagency mortgages, emerging-markets debt, asset-backed securities, and more. However, Western Asset had its pedal to the metal in 2008, and the wipeout wasn't pretty. Since then, it has posted returns that are robust enough that performance is excellent even over trailing periods that include the financial crisis of 2008.

But it wasn't just returns that got us to Gold. More important was that the firm retooled its strategy in the hopes of moderating returns a bit while at the same time staying true to its emphasis on making money with credit. We've been pleased as Western Asset executed the strategy of still producing solid returns with a closer focus on risk. Senior analyst Maciej Kowara describes a team and strategy that have come together nicely: 

"Western Asset is one of the premier fixed-income shops in the industry and can command research resources that are commensurate with this status. Of a grand total of 126 investment professionals, 28 are devoted to broad market strategies, another 28 to emerging markets, 17 to high-yield, 21 to investment-grade credit, and 11 to structured products, among others. These numbers make it one of the better-staffed asset managers among its competitors.

"This large and diverse team is tasked with contributing to developing Western's investment outlook and executing it within the investment constraints of its various offerings. Senior members of the investment team, under the leadership of CIO Ken Leech, form a U.S. broad strategy committee that sets the firm's positioning on rates, yield curve, and sectors, among others. These forecasts have more often than not hit the mark. Once these themes are set, portfolio managers implement them. This part of the process has two aspects. Sector heads and individual analysts help managers with security selection, and the latter affect portfolio construction with the use of Western's risk system, which took multiple years to complete after its 2010 beginning. That system is notably important here given its utility in helping this fund's managers in their aim to diversify sources of risk."

Besides the gradual improvement at the fund, we also noted improvement at parent company Legg Mason, leading us to upgrade the Parent rating to Positive. Together, these developments led us to raise the fund to Gold in December.

T. Rowe Price QM U.S. Small-Cap Growth Equity PRDSX had a long slow climb to Gold. We started coverage in 2012 with a Bronze rating, then raised it to Silver in 2015 and to Gold in April 2018. The fund's consistency over the years has impressed us, as has the stability of the slowly growing team of nine quantitative analysts supporting the fund. It has been led by Sudhir Nanda since October 2006. He runs a diffuse portfolio selected by an array of measures that fall into three buckets: valuation, profitability and capital allocation, and momentum. The first two account for most of the weighting in Nanda's system.

Having a diverse portfolio of 300 names is common for quant funds, as the idea is to emphasize measures that have worked over time without being overly dependent on a handful of stocks. This fund's fundamental and fairly transparent drivers boost its appeal over many quant funds that are black boxes and can be frustrating to those trying to figure out the right way to use them. In addition, the fund's 0.81% expense ratio means it doesn't have far to go to catch up with small-cap index funds.  

Sometimes the road to Gold isn't all that complicated. Schwab cut the expense ratio at Schwab total Stock Market Index SWTSX to 0.21% in 2009. That was OK but not really compelling in the passive world. It cut the expense ratio to a very cheap 0.09% in 2010, and we rated the fund Silver. Then Schwab cut it to just 3 basis points in February 2017, and naturally we raised the fund to Gold. That's tough to beat.

The JPMorgan SmartRetirement funds had a few drivers that brought us to Gold in February 2018. One was a fee cut. Target-date funds often have a fund-of-funds structure, so you need to pay attention to the summed-up prospectus expense ratio in order to compare funds. In this case, cuts in the fees of underlying funds gave the target-date funds fees between 0.41% and 0.51% for R6 shares. Equity-heavy later-dated funds like JPMorgan SmartRetirement 2040 SMTYX are at the higher end of this range, and bond-heavy funds are at the lower end. In any case, those are attractive fee levels.

The second piece of the story was continued strong execution from a stable team led by Anne Lester. It's a very experienced team that also includes key managers Dan Oldroyd, Mike Schoenhaut, Eric Bernbaum, and Jeff Geller, and it has led the funds to top-quartile performance over the trailing five- and 10-year teams. (Performance varies by target-date year and share class.)

The third piece was that we upgraded the two biggest underlying funds in the target-date series. We raised JPMorgan Core Bond JCBUX to Silver and JPMorgan U.S. Research Enhanced Equity JDEUX to Bronze. Those funds, like many in J.P. Morgan's lineup, offer dependability over thrills. They are very consistent, disciplined strategies run by experienced investors. And quietly consistent is a virtue in a target-date fund.


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