Frequently Asked Questions Morningstar Analyst Rating and ...

[Pages:2]Frequently Asked Questions

Morningstar Analyst Rating? and Research Reports for Target-Date Fund Series

February 5, 2013

Methodology Changes ? In February 2013, Morningstar updated the methodology that supports the Morningstar Analyst Rating? and Research Reports for target-date fund series.

? Morningstar analysts have rated targetdate series since September 2009.

? The series' Analyst Ratings are featured in five-page research reports aimed at institutional researchers as well as one-page reports designed for retirement-plan participants and other investors.

How are the series' overall ratings changing? The previous methodology, introduced in September 2009, used an overall rating scale of Top, Above Average, Average, Below Average, and Bottom. The five pillars--People, Parent, Portfolio, Performance, and Price--were rated individually using the same scale.

Under the methodology launched in February 2013, the Morningstar Analyst Rating? for target-date series uses the following scale: Gold, Silver, Bronze, Neutral, and Negative. The pillars--People, Parent, Process, Performance, and Price--are individually rated Positive, Neutral, or Negative.

Does the new Process pillar rating replace Portfolio? Yes. In the previous methodology, Process was not scored, but it had analytical text that described how the managers of target-date series manage the asset allocation. The Portfolio rating evaluated the quality of the underlying fund holdings as measured by the average assetweighted Morningstar Rating (the star rating).

Under the new methodology, the Process pillar is equally divided between Process: Approach and Process: Portfolio. Process: Approach is an entirely qualitative assessment of the assetallocation and fund-selection processes. The series' transparency--how well it explains its design and implementation to investors--is another factor. Process: Portfolio is a quantitative metric based on the asset-weighted star rating of the series' underlying holdings. In cases where a series is not a fund-of-funds structure, the entire rating is qualitative.

How has the methodology for the Price pillar changed? Previously, Price was a fully quantitative scoring based on the ratio of a series' selected share class expense ratio compared with an industry average. The selected share class was the lowest-cost share class of a series that had at least 10% of series assets. Since most series sell through institutional channels, this system penalized series that have more assets in retail share classes.

Going forward, Price remains a quantitative evaluation. It is based on the series' asset-weighted Morningstar Fee Level Distribution Percentile Rank. Morningstar Fee Level Distribution is a measure of fund expenses that groups share classes by strategy type and distribution channel, and then ranks the share classes by cost. This methodology considers the relative price retirement investors are paying across the series' share classes.

How is Performance evaluated? Under the former methodology, Performance was based on a quantitative score that considered the risk-adjusted performance of funds in the series, relative to the funds' category average riskadjusted performance. Each series' risk-adjusted performance was mapped to a scale from 1 to 20 points using fixed bands. Since the bands were fixed, the methodology did not account for different amounts of dispersion in market returns over time. The calculation was based on the same share class selected for the series' Price comparison under the previous Price methodology.

?2013 Morningstar. All rights reserved. The information, data, analyses, and opinions contained herein (1) are proprietary to Morningstar, Inc. and its affiliates (collectively, "Morningstar"), (2) may not be copied or redistributed, (3) do not constitute investment advice offered by Morningstar (4) are provided solely for informational purposes and therefore are not an offer to buy or sell a security, and (5) are not warranted to be accurate, complete, or timely. Certain information may be self-reported by the investment vehicle and not subject to independent verification. Morningstar shall not be responsible for any trading decisions, damages, or other losses resulting from, or related to, this information, data, analyses or opinions or their use. Past performance is no guarantee of future results.

Frequently Asked Questions Morningstar Analyst Rating? and Research Reports for Target-Date Fund Series Feb. 5, 2013

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Now Performance is still evaluated quantitatively by comparing series' risk-adjusted performance relative to peers. However, each series' risk-adjusted performance is normalized based on the dispersion of returns in the target-date universe. To accomplish this, each series' performance relative to the category average performance is given a Z score using a mean of zero. Z scores then are mapped to point values from 1 to 20 and assigned a relevant pillar rating. This methodology will allow for differences in market volatility over time and avoid clusters of scores.

Z score: (-average) stdev

How are you evaluating People? Is manager ownership of the target-date series' shares still a factor? Previously, the People rating combined a qualitative assessment of the management team with quantitative assessments of manager-compensation methods and manager ownership of funds in the series.

Under the new methodology, People is an entirely qualitative assessment of the management teams. In determining a series' People rating, Morningstar analysts consider both the managers of the series' underlying funds, as well as the named managers of the series. Manager ownership of fund shares is now taken into consideration at each series' Parent level (along with ownership levels for all of a series' funds). This is consistent with the Parent pillar methodology for the Morningstar Analyst Rating? for mutual funds.

Have you implemented changes to the Parent methodology as well? Yes. Previously, the Parent rating combined qualitative assessments of a firm's corporate culture, transparency, fund board quality, and regulatory history with quantitative evaluations of board independence and board ownership of fund shares.

From here, Parent follows the same methodology as the Morningstar Analyst Rating? Parent pillar rating. This methodology considers the firm's corporate culture, fund board quality, fund manager incentives (which includes manager ownership of fund shares), fees, and regulatory history. Corporate culture, fund board quality, and regulatory history are evaluated qualitatively, while fund manager incentives and fees are largely quantitative. Transparency is now an input in the Process rating.

?2013 Morningstar. All rights reserved. The information, data, analyses, and opinions contained herein (1) are proprietary to Morningstar, Inc. and its affiliates (collectively, "Morningstar"), (2) may not be copied or redistributed, (3) do not constitute investment advice offered by Morningstar (4) are provided solely for informational purposes and therefore are not an offer to buy or sell a security, and (5) are not warranted to be accurate, complete, or timely. Certain information may be self-reported by the investment vehicle and not subject to independent verification. Morningstar shall not be responsible for any trading decisions, damages, or other losses resulting from, or related to, this information, data, analyses or opinions or their use. Past performance is no guarantee of future results.

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