Take it from the experts at Morningstar: Don't blindly follow the stars in their rating system.
Just because a mutual fund or stock carries a five-star rating doesn't mean it's a lock to outperform one with two stars, according to a panel of Morningstar specialists at the financial company's investing conference Wednesday.
Many investors mistakenly see the ratings as predictors for the future, according to Don Phillips, president of fund research.
"The star rating is just a grade on past performance," he said. "It was never intended to be a crystal ball."
Perhaps the biggest benefit of the system, Phillips said, is that it gets fund companies thinking long-term and about risk as they strive for higher ratings.
There are a lot of other ways to look at funds, the panel noted, such as looking for those with low costs, long manager tenures or limited risk.
Or you can just invest in funds where the managers have a large personal stake. There's a strong correlation between the star ratings and where the managers put their own money, according to Phillips.
The average manager of a five-star fund has $300,000 of his or her own money in it, Morningstar data shows. That declines to $220,000 for the average manager of a four-star fund, $180,000 for a three-star fund, $140,000 for a two-star fund and $100,000 for the manager of a one-star fund.
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