Morningstar ratings do not reliably predict future fund performance. Funds with 5-star ratings from 2006 tended to underperform relative to lower-rated funds in subsequent years. Similarly, high Sharpe ratios from 2002-2006 did not correlate with strong performance in later periods. Past performance also generally failed to persist - top-performing funds from 1997-2006 often underperformed in 2007-2011 compared to benchmarks like the S&P 500 index. Across large and small value funds, most previous top performers went on to trail their respective Russell index in the following 5-10 years. Star ratings, risk-adjusted returns, and prior raw returns all showed little predictive power regarding future mutual fund success.
1. ME1170.2
Is There Predictive Power in Morningstar Ratings?
As of 12/31/06
5 Stars
Morningstar “Star” Rating
4 Stars
(as of 12/31/06)
3 Stars
2 Stars
1 Star
Fund Rank, Sorted by Overall “Star” Rating, then 3-Year Total Return % Rank in Category (as of 12/31/06)
2007–2011
Morningstar Category
5-Year % Rank within
(2007- 2011)
Dead
Funds
2,195
Fund Rank, Sorted by Overall “Star” Rating, then 3-Year Total Return % Rank in Category (as of 12/31/06)
For illustrative purposes only. Sources: Mutual fund universe statistical data and non-Dimensional money managers’ fund data provided by Morningstar, Inc. Sample
size (6,671 funds) taken from entire domestic equity mutual fund universe with an inception date prior to January 1, 2002. Subsequent 5-year period represents
existing funds with a Morningstar rating as of December 2006. Past performance is no guarantee of future results.
2. ME1170.2
Can Sharpe Ratios Predict Returns?
5-Year Sharpe Ratios (2002–2006)
5-Year Sharpe Ratios
(2002–2006)
Number of Funds = 5,849
Fund Rank, Sorted by 5-Year Sharpe Ratio (2002-2006)
5-Year Sharpe Ratios (2002–2006) vs. Subsequent Performance
20
5-Year Annualized Return %
10
0
2007- 2011
-10
-20
-30
Surviving Funds as of December 2011 (4,132 funds)
-40 Funds with no data as of December 2011 (1,717 funds)
-50
- 1,000 2,000 3,000 4,000 5,000 6,000
Fund Rank, sorted by Five-Year Sharpe Ratio, as of Dec 31, 2006
For illustrative purposes only. Eligible universe is all share classes of US Stock mutual funds with a five-year Sharpe ratio as of Dec 31, 2006, in Morningstar Direct 3.11. Sources:
Mutual fund universe statistical data and non-Dimensional money managers’ fund data provided by Morningstar, Inc. Past performance is no guarantee of future results, and there is
always the risk that an investor may lose money.