The Lipper Leaders system uses four criteria to provide comparative information across some 140,000 funds, with the aim of helping millions of investors make more informed investment decisions
For Robin Thurston, Lipper's global head of research, the aim of the company's innovative Leaders system is to give people the ability to quickly analyse thousands of funds to find those that best suit their particular investment needs.
"The original idea came from our belief that selecting investment products is all about finding what is most appropriate," Thurston explains. "It's about getting investors into the best products for them, rather than embracing a one-size-fits-all approach."
It's a philosophy the company has been actively promoting since launching Lipper Leaders four years ago and one which has benefited millions of people searching for the most suitable location for their savings.
The initial version of its successful method, which ranks funds on a scorecard of different factors, focused on how good a particular portfolio was in providing consistent returns and preserving an investor's cash.
But within a year, tools to measure a fund's total return relative to its category and its costs in comparison to rival products in its peer group were added to the proposition to further aid the decision-making process.
"We have really tried to build something that features an array of attributes that an investor should look for in a fund," he explains.
"When we did our research, it was clear to us that people were worried about these same four factors, but had no way of actually measuring them in an easy and quick scorecard format."
The research also proved that multi-factor selection models perform much better than those relying on single issues, such as just relative performance.
"We found you really need to look at a number of different elements of a fund rather than relying on a single element or rating," he claims. "Deciding which one is best for an individual then comes down to their personal circumstances and requirements."
For example, an investor coming up to retirement is likely to have vastly different needs and tolerance to investment risk than someone in their twenties who has just secured their first job and can afford to gamble more in the hope of better longer-term returns on their money.
"They might be someone who is about to give up work and need to preserve their investment, but who prefers to put their money into equity funds," suggests Thurston. "In this case they will be able to examine those equity portfolios that have the best records of protecting capital."
In a similar way the system will help investors steer clear of funds that are likely to be too risky for their circumstances.
"It may not be appropriate for an investor that's about to retire to invest in a risky technology fund, or at least not their entire portfolio, and the Lipper Leaders system can help them avoid that," explains Thurston. "However, it can also show younger investors there are opportunities to perhaps be more aggressive."
Before we take an in-depth look at the four criteria Lipper uses, it's important to note there is a crucial earlier stage in the whole process - classifying the individual funds to ensure investors are comparing like-with-like.
Considering Lipper now analyses 140,000 funds across the world, it's vitally important that similar funds are grouped together. It would be pointless, for example, trying to compare a UK bond fund with a Japanese equity product.
"This is the first layer of criteria to ensure an investor is properly analysing the investment product," says Thurston. "We use a combination of holdings information and legal documents that are continually reviewed and analysed."
Once an investor is confident Lipper has classified the funds correctly, he adds, they will feel more comfortable using the analytical tools to delve a little bit deeper into what the portfolios have to offer.
The four criteria
Relative total return to category
This examines how well an individual fund has done over set time periods, in terms of underlying performance in comparison to its peer group on a relative basis. In simple terms, it provides a snapshot of a portfolio's performance against similar offerings.
Consistency of return
While similar to the first measure, the difference here is the results are risk-adjusted to the peer group average. To analyse consistent returns, Lipper examines performance over non-overlapping rolling periods of one, three, six and 12 months. Within this metric, funds are actually penalised more for their downside risk than for their upside potential.
Capital preservation
Rather than looking at how well the fund protected the money invested, relative to the peer group, this measure looks at how well the capital was preserved compared to the overall asset group. Over pre-defined periods of three, five or 10 years, it will look at the sum of negative months.
"If it has had three months of being down 5%, then the value will be down 15%," explains Thurston. "That performance is then ranked relative to other equity or bond funds."
Expenses
This final section looks at the costs, relative to the peer group. The data used, which is leveraged from the Fitzrovia business owned by Reuters, allows the total expense ratio of the fund to be compared to those of its immediate peer group.
"There may be an additional sales load for an investor to pay, but we're only looking at it in terms of a portfolio's ongoing fees," adds Thurston.
In each of the four areas funds will be ranked from one to five. The pick of the bunch will receive a Lipper Leader 'tick', while those judged to be the worst on a particular set of characteristics will be given a five.
However, Thurston is at pains to point out that the Lipper Leaders system is by no means the last word in fund analysis. There are, he says, other factors such as the length of a manager's tenure, which can also have a bearing on the decision whether to invest.
"All we are saying is that these four criteria should be the minimum that people review," he adds.
During the four years that Lipper Leaders have been on the scene, the international investment universe has changed considerably. Global stock markets have plunged to depressing lows - and in some cases staged remarkable recoveries - while economic concerns have been an ever-present issue.
There are also literally thousands of funds from which to choose. Everything, from bluechip FTSE 100 giants to small-cap names few people will know in emerging markets, can be accessed via different portfolios.
But although the amount of information available to individual investors has increased, particularly due to the rising popularity of the internet, this deluge of data has, in some cases, made the job of choosing funds even more difficult.
Cutting through acres of marketing literature to find the real story would require someone to closely scrutinise reams of data that are churned out for the investment community covering areas such as fund volatility, investments styles and performance against benchmark indices - and they might not even be able to access it.
It's in this climate, insists Thurston, that Lipper Leaders can provide tangible benefits to investors. The beauty of the system, he says, is its simplicity.
"Once an investor has taken a few minutes to understand how each metric works then they can get through literally thousands of funds within minutes," he explains. "They can immediately look at a product and know it's good on some measures and bad on others."
The system works just like a scorecard. "Investors can go through and answer four questions to get a good understanding of a fund," he says. "They are able to see how it has performed on a total return basis, on a risk-adjusted basis, how it has preserved underlying capital and what the cost will be of the entire package."
Today, choosing the right investment product has never been more important. People have to take a much closer interest in long-term financial planning in the wake of crumbling final salary pension schemes and the reality that the Government pension won't be enough to guarantee future generations even a basic standard of living.
"Many people had never experienced a bear market until just a few years ago," says Thurston. "For 20 years we had this amazing bull market where we were on a roll and stock markets kept rising."
Those glorious times, he concedes, have now been consigned to history. "People are being told it's their responsibility to invest for their retirement, which means the level of interest in investment products obviously go up," he says. "Many of them are now much more knowledgeable about such matters and they are the ones who can really benefit from using Lipper Leaders."
Even those who are presently shunning the idea of pension planning will be forced to take an interest later in life, probably by seeking the help of an investment professional.
"We are also moving into a situation where there's an ageing population," says Thurston. "As people become older they usually become more interested in how they are going to fund their retirement."
It's not a trend that Thurston expects to change anytime soon. "As the number of different investment funds continue to grow there will be a need to screen down and find the right products," he predicts.
"While a very simplistic ratings system may have worked at one time, there are now literally tens of thousands of potential products that an investor can buy through a variety of outlets, so detailed analysis is needed."
The difficulties faced by individual investors in planning for their future has also helped fuel an increase in the number of independent financial advisers tasked with the job of sorting the wheat from the chaff as far as funds are concerned.
"We expect to see continued growth within the adviser community," says Thurston. "Most individual investors are going to opt for a collective investment product rather than building their own portfolios with individual stocks, which means more work for advisers.
"Going down this route gives them diversification as well as access to a professional manager who is watching their money every day."
A powerful argument in favour of both individuals and advisers using Lipper Leaders is the weight of experience and information behind the proposition, aligned with an enviable team of investment professionals around the globe who are continually analysing different funds on their behalf.
Lipper Analytical Services was originally founded by Michael Lipper in 1973 to provide precise data and analytical perspective to mutual funds companies across the United States. It soon became a watchword for unbiased comparisons of performance.
In 1998 the company became a wholly-owned subsidiary of the Reuters Group, since when a series of acquisitions have provided it with tremendous resources across a vast array of different areas.
Among the most prominent purchases have been Fitzrovia International, a UK-based provider of fund fees and expenses research; CAMRA, which supplies fund portfolio information and TASS Research, the respected hedge fund performance database.
For Thurston, having access to the sheer volume of information is a huge benefit in getting Lipper's message across.
"It has allowed us to build and support the methodology to help individual investors," he says. "We have the channels for distribution - both to independent financial advisers and individual investors, as well as the ability to both inform and educate people. It's great to have the methodology but if you can't get the word out there then it makes it very difficult to educate the end user.
Thurston, who has a master's in finance from the University of Colorado and a BS in finance from the Metropolitan State College of Denver, worked as an analyst at Lipper from 1996 to 1999, during which time he co-developed its portfolio-based equity fund classification matrix. After serving as manager of portfolio research and competitive analysis at American Century, he re-joined Lipper in 2001.
There's no doubt the Lipper Leaders system has come a long way since making its debut four years ago, but what is next for the company? How does the business model work and what is the long-term aim?
"Our vision is to be a partner with the industry and the difference between Lipper Leaders and some other ratings systems is that we don't charge for licensing or usage," says Thurston. "The business model is that Lipper Leaders act as demand stimuli for other products that we have to offer."
It is estimated that about $3 trillion worth of assets are currently using Lipper Leaders data on their marketing literature, websites and articles that appear in both trade and national publications.
"Seeing the Lipper Leaders name out there all the time has a real brand benefit for the company," explains Thurston. "We would like to see the number of assets using our statistics double to between $6 trillion and $8 trillion. Our feeling is that if a company uses our tools to communicate with their investors, they will be in better products."
Lipper is also focussed on ensuring its proposition can be accessed around the world.
"We have been rolling out the system and are trying to get the four criteria in each country as some don't yet have access to areas such as total expense ratios," says Thurston. "In the US we actually have a fifth rating of tax efficiency because the situation with tax out there is so different from everywhere else."
However, the overall objective of the system remains the same, regardless of the country or type of investor - providing millions of investors, both directly and indirectly, with the tools to make informed decisions.
"The ultimate goal is getting people to be more comfortable in finding products to meet their expectations and Lipper Leaders helps them achieve this objective," agrees Thurston. "The reality is if investors just take the time review those four criteria and understand them, we know they are going to make better investment decisions."
