Morningstar - Q2 2023 - 47

New Quantitative Rating Expands Our
Coverage of Model Portfolios
As models proliferate, MQR gives investors
a much-needed tool.
MODEL PORTFOLIOS
Jason Kephart
Sorting through the wide-ranging model portfolio
universe can be daunting. To help advisors
find the right ones for their clients, we expanded
the Morningstar Quantitative Rating, or MQR,
coverage to include model portfolios.
This increased the number of model portfolios
receiving forward-looking Morningstar
Ratings from 500 to roughly 1,600, or about two
thirds of the model portfolio universe.
In this article, we'll highlight the need for
more tools to assess the ever-sprawling model
portfolio opportunity set and how the MQR
EXHIBIT 1
Launches and Activations As advisors increasingly turn to third parties for their
investment management, the number of model portfolios has exploded.
400
300
200
100
1,200
900
600
300
65
2019
2020
Source: Morningstar Direct, author's calculations. Data as of Dec. 31, 2022.
2021
2022
320
252
272
Launches
Activations
331
for models accounts for their peculiarities
compared with registered investment vehicles.
We'll also review the initial results.
Model Product Development Has Not
Calmed Down
Even with last year's unusually high volatility,
another 65 model portfolios were launched
and 331 more activated. (Because models are
voluntarily reported, there is typically
a lag between launches and when they are
activated in Morningstar's products.) For
comparison, only 10 new allocation mutual funds
had been launched in 2022 through the
end of November. Morningstar's model portfolio
database includes more than 2,500 models
as of November 2022, up from around 1,000
a couple of years ago.
EXHIBIT 1 shows the number of model portfolio
launches and activations by year.
The proliferation of models isn't without
good reason. Advisors are increasingly turning to
third-party models to outsource some, or all,
of their investment management responsibilities.
Models offer professionally managed, scalable
portfolios that advisors can leverage to create
more time for working with clients and growing
their businesses. Finding the right model portfolios
for their clients can still be a challenge, though.
Advisors, You're Not on Your Own
In 2019, Morningstar analysts started assigning
forward-looking ratings to separate accounts
representative of model portfolios. In 2021, we
expanded those ratings to include paper model
portfolios with hypothetical performance.
The Analyst Rating is based on an analyst's
conviction in a model's ability to outperform its
Morningstar Category benchmark on a riskadjusted
basis over a full market cycle of at least
five years. Nearly 500 models received Morningstar
Analyst Ratings as of December 2022. But
the number of models that receive an Analyst
Rating is limited by the size of the Morningstar
manager research team.
The MQR uses a machine-learning algorithm to
mimic the decision-making processes of
analysts. The methodology has been applied
to open-end mutual funds and exchange-traded
funds since 2017, and it was also rolled
out to separately managed accounts in 2020.
How MQR Evaluates Models
Model portfolios have unique traits compared
with other vehicles, and the MQR has been
adjusted to account for that. For example, models
often backfill returns before their appearance
in databases like Morningstar's. Further, they often
do not submit historical portfolio data with their
performance records, making it hard to analyze
what has driven performance or how their
managers have changed their asset allocations
or underlying fund lineups over time.
There also are cases where preactivation returns
reflect hypothetical, back-tested results. Even
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