IDEAS home Printed from https://ideas.repec.org/a/lrc/lareco/v4y2016i1p11-22.html
   My bibliography  Save this article

Assessing performance of Morningstar’s star rating system for equity investment

Author

Listed:
  • Paul J. Bolster

    (CFA, Professor of Finance, D’Amore-McKim School of Business, Northeastern University, Boston, MA 02115.)

  • Emery A. Trahan

    (CFA, Senior Associate Dean, D’Amore-McKim School of Business, Northeastern University, Boston, MA 02115.)

  • Pinshuo Wang

    (Ph.D. Candidate, Department of Economics, College of Social Studies and Humanities, Northeastern University.)

Abstract

Both institutional and individual investors have a vast array of advisory and ratings services to assist with security selection. One of the most prominent sources of stock ratings is Morningstar. This is the first large-scale study evaluating the performance of portfolios formed using Morningstar’s Star rating system for stocks. We evaluate the performance of portfolios formed using this rating system. Our results provide evidence that the Morningstar stock rating system allows an investor to build a portfolio with superior absolute and risk-adjusted returns over a long period of time. We show that a modest transaction cost will reduce, but not eliminate, these benefits. Overall, our results indicate that Morningstar ratings effectively discriminate between over- and undervalued stocks over the long term.

Suggested Citation

  • Paul J. Bolster & Emery A. Trahan & Pinshuo Wang, 2016. "Assessing performance of Morningstar’s star rating system for equity investment," Journal of Economic and Financial Studies (JEFS), LAR Center Press, vol. 4(1), pages 11-22, February.
    • Handle: RePEc:lrc:lareco:v:4:y:2016:i:1:p:11-22
    as

    Download full text from publisher

    File URL: http://www.journalofeconomics.org/index.php/site/article/view/214/277
    Download Restriction: no
    ---><---

    References listed on IDEAS

    as
    1. Brad M. Barber & Reuven Lehavy & Brett Trueman, 2010. "Ratings Changes, Ratings Levels, and the Predictive Value of Analysts’ Recommendations," Financial Management, Financial Management Association International, vol. 39(2), pages 533-553, June.
    2. Andrew Metrick, 1999. "Performance Evaluation with Transactions Data: The Stock Selection of Investment Newsletters," Journal of Finance, American Finance Association, vol. 54(5), pages 1743-1775, October.
    3. Brad Barber & Reuven Lehavy & Maureen McNichols & Brett Trueman, 2001. "Can Investors Profit from the Prophets? Security Analyst Recommendations and Stock Returns," Journal of Finance, American Finance Association, vol. 56(2), pages 531-563, April.
    Full references (including those not matched with items on IDEAS)

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Alan Crane & Kevin Crotty, 2020. "How Skilled Are Security Analysts?," Journal of Finance, American Finance Association, vol. 75(3), pages 1629-1675, June.
    2. Medovikov, Ivan, 2014. "Can analysts predict rallies better than crashes?," Finance Research Letters, Elsevier, vol. 11(4), pages 319-325.
    3. Hafeez, Bilal & Li, Xiping & Kabir, M. Humayun & Tripe, David, 2022. "Measuring bank risk: Forward-looking z-score," International Review of Financial Analysis, Elsevier, vol. 80(C).
    4. Ryan Flugum, 2021. "The trend is an analyst's friend: Analyst recommendations and market technicals," The Financial Review, Eastern Finance Association, vol. 56(2), pages 301-330, May.
    5. Michael Cooper & Huseyin Gulen, 2006. "Is Time-Series-Based Predictability Evident in Real Time?," The Journal of Business, University of Chicago Press, vol. 79(3), pages 1263-1292, May.
    6. Flugum, Ryan & Howe, John S., 2020. "Hedge fund activism and analyst uncertainty," International Review of Economics & Finance, Elsevier, vol. 66(C), pages 206-227.
    7. Cheolwoo Lee, 2013. "Analyst firm parent–subsidiary relationship and conflict of interest: evidence from IPO recommendations," Accounting and Finance, Accounting and Finance Association of Australia and New Zealand, vol. 53(3), pages 763-789, September.
    8. Hackethal, Andreas & Haliassos, Michael & Jappelli, Tullio, 2012. "Financial advisors: A case of babysitters?," Journal of Banking & Finance, Elsevier, vol. 36(2), pages 509-524.
    9. Yezegel, Ari, 2015. "Why do analysts revise their stock recommendations after earnings announcements?," Journal of Accounting and Economics, Elsevier, vol. 59(2), pages 163-181.
    10. Kucheev, Yury O. & Ruiz, Felipe & Sorensson, Tomas, 2015. "Star sell-side analysts listed by Institutional Investor, The Wall Street Journal and StarMine. Whose recommendations are most profitable?," INDEK Working Paper Series 2015/11, Royal Institute of Technology, Department of Industrial Economics and Management.
    11. Kucheev, Yury O. & Sorensson, Tomas, 2016. "The origin of outperformance for stock recommendations by sell-side analysts," INDEK Working Paper Series 2016/13, Royal Institute of Technology, Department of Industrial Economics and Management.
    12. Roger K. Loh, 2010. "Investor Inattention and the Underreaction to Stock Recommendations," Financial Management, Financial Management Association International, vol. 39(3), pages 1223-1252, September.
    13. Andersson, Patric, 2004. "How well do financial experts perform? A review of empirical research on performance of analysts, day-traders, forecasters, fund managers, investors, and stockbrokers," SSE/EFI Working Paper Series in Business Administration 2004:9, Stockholm School of Economics.
    14. Darko B. Vukovic & Orifjon O. U. Kurbonov & Moinak Maiti & Mustafa Özer & Milan Radovanovic, 2024. "Outperforming the market: a comparison of Star and NonStar analysts’ investment strategies and recommendations," Palgrave Communications, Palgrave Macmillan, vol. 11(1), pages 1-15, December.
    15. Devos, Erik & Hao, Wei & Prevost, Andrew K. & Wongchoti, Udomsak, 2015. "Stock return synchronicity and the market response to analyst recommendation revisions," Journal of Banking & Finance, Elsevier, vol. 58(C), pages 376-389.
    16. Jiang, Shuai & Guo, Yanhong & Zhou, Wenjun & Li, Xianneng, 2023. "Identifying predictors of analyst rating quality: An ensemble feature selection approach," International Journal of Forecasting, Elsevier, vol. 39(4), pages 1853-1873.
    17. Sébastien Galanti & Zahra Ben Braham, 2017. "Information efficiency on an emerging market: analysts' recommendations in Tunisia," Economics Bulletin, AccessEcon, vol. 37(1), pages 377-390.
    18. Yury O. Kucheev & Felipe Ruiz & Tomas Sorensson, 2017. "Do Stars Shine? Comparing the Performance Persistence of Star Sell-Side Analysts Listed by Institutional Investor, the Wall Street Journal, and StarMine," Journal of Financial Services Research, Springer;Western Finance Association, vol. 52(3), pages 277-305, December.
    19. Rosella Castellano & Annalisa Ferrari, 2019. "Are stock price dynamics affected by financial analysts recommendations? Evidence from Italian green energy stocks," Quality & Quantity: International Journal of Methodology, Springer, vol. 53(5), pages 2535-2544, September.
    20. Florian Esterer & David Schröder, 2014. "Implied cost of capital investment strategies: evidence from international stock markets," Annals of Finance, Springer, vol. 10(2), pages 171-195, May.

    More about this item

    Keywords

    Asset pricing; investment decisions; ratings and rating agencies; security analyst.;
    All these keywords.

    JEL classification:

    • G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:lrc:lareco:v:4:y:2016:i:1:p:11-22. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: S Marjan (email available below). General contact details of provider: http://www.journalofeconomics.org .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.