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Morningstar® Category Classifications
September 21, 2006

President's Message

When it comes to evaluating mutual funds on a comparative basis, few things are more important than the categorization scheme used to classify them. Fund categories represent a critical "first cut" for investors by identifying the basic nature of particular mutual funds. Furthermore, industry-standard performance evaluation practices such as quartile ranking, rating systems and investment fund benchmark construction are inextricably linked to these category schema.

At Morningstar, one of our key corporate values is "Investors Come First." It is with this in mind that we devised a fund categorization system that is aimed not only at helping investors but, in certain circumstances, protecting them as well.

How?

First, we use as one of our guiding principles the notion of consistent investment risk profiles in constructing the categories. By this we mean that members of a particular category should exhibit reasonably homogeneous risk characteristics. Morningstar Canada ensures this through careful examination of each fund's current and historical underlying portfolio holdings. An investor, therefore, can be confident that a fund selected from a Morningstar category will contain the risks (or safety) associated with that particular fund category.

Secondly, this assurance of consistency is also extremely useful in portfolio construction. Advisors and investors alike are increasingly aware of the importance of asset allocation in portfolio construction. That's why it is essential, when using mutual funds as portfolio building blocks, to have confidence that funds found in a particular category will have the desired characteristics.

As indicated in the Morningstar Canada Category Classifications document, our new fund categories are more robust and more heavily scrutinized than the previous fund categories. There are intensive quantitative screens as well as qualitative judgments that are implemented on a continuous basis to ensure that the constantly evolving fund landscape is properly represented by the category scheme. We have dedicated an analytical team to constantly monitor the fund categories and their respective membership. These analysts write detailed research reports on Canada's largest mutual funds and in many cases are intimately familiar with the funds they are categorizing.

And while we have set up a feedback loop with the mutual fund industry (in order to obtain valuable insights into the process), investors can be assured that these categories are not unduly influenced by fund companies. Morningstar is an independent and objective observer of the industry, an ideal position for an unbiased provider of fund categories.

Of course, there is always room for improvement. With this in mind, we encourage all stakeholders: investors, advisors, mutual fund companies, consultants, investor advocacy groups, or anyone with an interest in better categories to communicate with us and offer your ideas and opinions.

Although no category scheme is perfect, we believe that these categories represent the most robust and analytically defensible system available in Canada. It is our commitment to the industry and investors alike that will keep us striving to improve these and ensure that, above all, "Investors Come First."

Learn More
Methodology and Definitions
Appendix
Category Membership List
Why Fund Categories Matter