Originally created 02/24/03

Morningstar deal with Fidelity raises questions about independence



NEW YORK -- While investors have long relied on fund tracker Morningstar Inc. for its sound research, some are questioning whether a recent deal it struck with the mutual fund industry's largest firm might threaten its independence.

Fidelity Investments is paying Chicago-based Morningstar an undisclosed sum to compile a quarterly list of "Fidelity Fund Favorites" in 12 fund categories made available on Fidelity's Web site.

It is the first paid deal the 19-year-old Morningstar - widely known for its independent star ratings of mutual funds in the entire industry - has ever signed to pick top funds exclusively from one company to be promoted to investors as its favorites.

Critics fear investors will confuse the 24 or so favorites, picked from about 150 Fidelity funds, as Morningstar's endorsement of a top fund out of an industry of 10,000 offerings. How the deal might affect the separate star-rating system is another question.

"Morningstar has always been perceived as a champion of the individual investor in that they provide unbiased advice," said Donald Dion, publisher of the Fidelity Independent Adviser newsletter. "This will give people the perception that they are no longer truly independent."

Morningstar defends the arrangement, saying it makes sense to pick favorites for a company with so many good performers. Fidelity already has more than 100 funds which receive the fund tracker's top four- or five-star ratings, said Joseph Mansueto, Morningstar's chief executive.

He added that the Fidelity favorites are selected by Morningstar Associates LLC, an investment consulting subsidiary with researchers separate from Morningstar Inc., which conducts the star ratings.

"We're just trying to winnow down the already highly rated funds by Fidelity," said Mansueto, adding that his firm would be open to similar deals with other mutual fund companies.

"I think we're performing a very legitimate need to help investors to focus their research efforts. It's hard to see that compromising our integrity," he said.

The deal comes as the mutual fund industry struggles to maintain profits amid a three-year bear market and Wall Street brokerages are under attack for the integrity of their research. Several analysts who touted stocks of companies for whom their firms do lucrative investment banking business are under investigation.

Financial planners said they doubted Morningstar would allow the Fidelity deal to compromise its research, but wondered whether the deal was worth endangering the fund tracker's otherwise stellar reputation.

"We are in a period unfortunately where there is a lot of distrust teeming in the investment world," said Harold R. Evensky, a certified financial planner in Coral Cables, Fla. "The timing simply for that may be unfortunate."

Fidelity has been heavily promoting the fund favorites in print ads and on its Web site, proclaiming, "if they're good enough to be Morningstar's, chances are they'll be yours too." In fine print, the ads reveal that "Morningstar" is a reference to Morningstar Associates, not Morningstar Inc.

Boston-based Fidelity called the deal sound and said it did not believe the advertising was misleading.

"We see it as another example of the many tools that we provide investors to make their own investment decisions," said Scott Beyerl, a Fidelity spokesman.

In selecting the Fidelity favorites, Morningstar said it looks at factors such as return, expenses, manager's history and composition.

Out of the 24 current favorites, 20 already had Morningstar Inc.'s four- or five-star top ratings. The four others, which received three stars, were chosen so there would be a favorite in each of the 12 categories and because they met minimum standards, Mansueto said.

In addition, several of the Fidelity favorites are not among the "analyst picks" listed on the Morningstar Inc. Web site.

"The ones with lesser ratings we tried to point out any negatives" in the commentary that accompanies the list, Mansueto said.

So how much weight should investors place on the fund favorites when making their decisions? Financial planners say it should be utilized as one of many investment tools and not as a final authority.

"My advice to investors would be to realize that Morningstar was paid to do this by Fidelity and they should weigh that when they consider the advice that Morningstar is giving to them," Dion said.

On the Net:

Morningstar: www.morningstar.com

Fidelity Investments: www.fidelity.com