In his article on Fidelity’s Magellan Fund, MarketWatch’s Chuck Jaffe feature’s New Constructs mutual fund rating system, which has a “neutral” rating on the Magellan fund.

Here are the details for Mr. Jaffe’s article:

“Richard Hunt, senior financial analyst for New Constructs, noted that the fund hasn’t just underperformed the index for a decade, but ‘it is in a poor position to turn that record around any time soon. … To illustrate, [Magellan] allocates 24% of its value to stocks that we rate as ‘dangerous’ or ‘very dangerous,’ while the S&P 500 allocates only 18%. Furthermore, the fund charges investors more than six times the expense ratio of … the most popular S&P 500 ETF.

‘It is clear that Magellan offers investors holdings that are more dangerous than the S&P 500’s at a higher price.'”

Central to New Constructs’ fund rating system is comparison to passively-managed benchmarks to focus on whether investors should pay the high price of active management.

Our fund rating system is the same as our stock rating system, which has received many accolades for its predictive power.

Indeed, New Constructs is the first to offer investors mutual fund research with predictive power.

Our exacting bottoms-up analysis of stocks drives equally exacting bottoms-up of funds on a holding-by-holding basis.

Now, investors have research on funds that assess the quality of all the fund’s holdings.

Method­ol­ogy: Pre­dic­tive with Strong Track Record

Unlike the other fund rat­ing sys­tems that too often dom­i­nate the dia­logue on funds, our sys­tem is not backward-looking and does not rely on past price performance.

For proof that the backward-looking rat­ing sys­tem is becom­ing obso­lete look no far­ther than one of the biggest fund rat­ing firms in the world. Morn­ingstar recently announced that it was aug­ment­ing its entirely backward-looking “star” rat­ing sys­tem with an “ana­lyst” rat­ing sys­tem that observes expense ratios, man­ager and spon­sor gov­er­nance and past performance.

This new rat­ing sys­tem, accord­ing to Morn­ingstar, is expected to add more pre­dic­tive value to its rat­ings. More is def­i­nitely bet­ter in this case since the pre­dic­tive value of the “star” rat­ings were per­ceived across the wealth man­age­ment indus­try as very low and often counter-predictive.

Note that the under­ly­ing val­u­a­tion of the stocks held by a fund is not included any­where in the new “ana­lyst” rat­ing. There is no men­tion of the under­ly­ing prof­itabil­ity (or lack thereof) of the stocks held by the fund either.

Admit­ting that a backward-looking “star” sys­tem was in need of improve­ment is a step in the right direc­tion, but Morn­ingstar is still far from offer­ing investors the pre­dic­tive value research they deserve in fund research.

Investors deserve fund research that is rig­or­ous as indi­vid­ual stock research.

For fund research to match the qual­ity of stock research, one must ana­lyze the invest­ment merit of each and every indi­vid­ual stock held by a fund. There is no worth­while short-cut to this daunt­ing chal­lenge, which has, until now, gone unmet.

Let’s face it: high-quality research on one stock is dif­fi­cult and rare. The process of trans­lat­ing account­ing earn­ings into eco­nomic earn­ings, by itself, requires a great deal of work for every period of his­tory one cov­ers for a sin­gle company.

I am not sur­prised that no other firms have been able to muster the resources to pro­vide investors with fund research based on rig­or­ous analy­sis of the under­ly­ing hold­ings for a large num­ber of funds.

Most of the research firms that cover enough stocks to be able to per­form fund rat­ings based on a fund’s under­ly­ing hold­ings are Wall Street firms. And those firms are in the invest­ment bank­ing busi­ness, which has proven over time not to share the best inter­ests of the firms’ research clients.

New Con­structs abil­ity to cover 3000+ stocks enables us to cover so many funds. Our patented research plat­form for revers­ing account­ing dis­tor­tions and dis­counted cash flow analy­sis lever­ages data from the finan­cial foot­notes to deliver research of unri­valed qual­ity and accu­racy on both stocks and funds.

Currently, we offer reports with pre­dic­tive rat­ings for nearly 400 ETFs. We plan to cover several thousand mutual funds in the near future.

To access our reports, enter the ETF or fund ticker on our home page.

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