Rating international small-cap index funds

An updated review of process and price led to some changes in these Morningstar Analyst Ratings.

Ben Johnson, CFA 6 September, 2018 | 5:00PM
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Morningstar rates three U.S.-listed exchange-traded funds that target international small-cap stocks, and earlier this year the Morningstar Analyst Ratings for all three changed.  iShares MSCI EAFE Small-Cap ETF (SCZ) dipped to Neutral from Bronze,  Schwab International Small-Cap Equity ETF (SCHC) improved to Bronze from Neutral, and  Vanguard FTSE All-World ex-US Small-Cap ETF (VSS) was downgraded to Bronze from Silver. These changes were necessary to resolve previous inconsistencies in the application of the ratings framework across these three funds.

The Morningstar Analyst Ratings reflect our level of confidence in a fund's ability to outperform its category peers on a risk-adjusted basis over a full market cycle. This assessment rests on the same five pillars used to evaluate mutual funds: Parent, People, Performance, Process and Price.

Broadly speaking, Process and Price are the most important pillars for rating index funds because they capture what an investor is getting and how much they're paying. The assessment of an index fund's investment process centers around its index construction methodology. Because the managers seek to track the index as closely as possible, they don't have nearly as much influence on the fund's category-relative performance as they would on an actively managed strategy. That said, it is still important to do due diligence on the index management team to ensure they can provide high-fidelity index-tracking with no surprises. All three rated international-stock small-cap index funds have Positive People ratings. They are managed by fully capable teams with access to similar technology and global trading desks.

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About Author

Ben Johnson, CFA

Ben Johnson, CFA  Ben Johnson, CFA, is director of global ETF research for Morningstar and editor of Morningstar ETFInvestor, a monthly newsletter.

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