It is basically the past performance that determines the ratings of mutual funds. These ratings help you analyzing the past performance of mutual funds and this way you can surely develop some trend for potential profits as well as losses in these funds.
A mutual fund is diverse as it allows you to invest in more than one source. By investing in different kinds of securities like stocks, money market and bonds mutual funds develop a portfolio that reduces the risk by diversifying the investment. The main purpose of rating mutual funds is to allow the investor to select the right mutual fund. Plus every company has their own methods and standards to rate the funds.
The performance of mutual fund is evaluated by tracking the last five to ten years performances and this is the most common method to rate a mutual fund. Looking at the past performances indicates how the mutual fund would perform in the future; hence this kind of information is quite helpful.
If we consider the Morning star ratings that give ratings on one to five stars, then the score the company first gets is on the basis of risk. However, the mutual funds performance for the last few years is not considered because past data is not believed to be reliable because past performances is not very accurate to determine future earnings or losses.
Lipper Inc another company that ranks funds. The company rates the funds on the basis of prior performance that means the better the mutual fund has performed it will show a lower risk and will get higher ratings. Similarly, if a fund past performances have not been satisfactory so it will be riskier and therefore will get lower ratings. Terms like return, preservation, consistency of the return, tax efficiency and the expense are all taken into consideration for determining the fund’s actual risk. This method is more accurate to determine the actual risk and earnings of the mutual fund.
These are the two companies that provide ratings on the mutual funds. However you need to research on them and look onto the performances of the mutual funds before selecting one on the advice of any of these companies. Moreover the ratings of these mutual funds can many times be accurate, but it is not wise to base your future investments alone on these ratings. Relying on these ratings alone will blind fold you to pick your investments