A Shocking New Morningstar Study!
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  1. A Shocking (To Some) Morningstar Report
  2. What’s The Big Deal?
  3. Other Important Questions To Ask
  4. Do It Yourself Or Let Us Help You


There is little doubt that the Morningstar organization has been very good to the mutual fund industry. Morningstar is by far the most widely followed mutual fund performance reporting database. Since 1984, Morningstar has offered data collection and analysis tools to aid investors ranging from industry professionals to do-it-yourselfers. However, some in the mutual fund industry may now be thinking that Morningstar has stopped helping and started meddling.

Why? Morningstar released a study last week showing that many mutual fund managers have little or none of their own money in the very funds they manage. Russel Kinnel, director of fund research at Morningstar, noted that the new study “…was the first comprehensive look at fund ownership among the some 6,000 funds in the firm’s database.” And what they found wasn’t pretty.

I’ll get into the details of the new Morningstar report later on in the E-Letter, but suffice it to say that there’s a very good chance that your mutual fund managers aren’t depending upon their own skills for financial success, though they expect you to do so. The Investment News called it an indication that many fund managers live by a philosophy of “invest as I say, not as I do.”

While there is certainly no legal requirement that mutual fund managers invest in their own funds, I think investors have a right to expect money managers to be invested right alongside them. I certainly do! I think this is especially true in light of some of the black eyes Wall Street has been given over the last decade or so.

This week, I’m going to delve deeper into the recently released Morningstar study, and provide some figures that may shock you. Plus, I will tell you why I think it’s very important that your money manager be invested alongside you, with his/her own money on the line – and not just a token investment. Plus, I’ll highlight other information that you may not know about a money manager unless you ask the right questions. This information is important for you to know, no matter what kind of investor you are.

Finally, be sure to read the “P.S.” at the end wherein I address a good question that many of you have raised about Scotia Partners and their red-hot performance record.

The Surprising Morningstar Study

On June 16, Morningstar, Inc. released a new study that evaluated how much money mutual fund managers have invested in the funds they manage. Since 2005, the Securities and Exchange Commission (SEC) has required mutual fund companies to disclose how much money fund managers have in the funds they manage.

Accessing manager investment information is not difficult. As a general rule, you can find it in the fund’s “Statement of Additional Information” (SAI), which is usually available either in printed form accompanying a fund’s prospectus or on a fund’s website. If you can’t locate the information in either of these two places, ask the fund’s sponsor to provide it to you.

I would think most investors assume that their mutual fund manager had a sizable amount of his/her own money in the fund(s) they manage. I certainly do; in fact, I have the bulk of my non-cash assets invested in the products I recommend.

Yet the new Morningstar study shows that about half of the mutual fund managers they track have NONE of their own money in the funds they manage. ZERO.

Morningstar found that 47% of US stock funds and 61% of foreign stock funds have no investment of the manager’s own money. Bond funds fare even worse with 66% of taxable bond funds, 71% of balanced funds and 80% of municipal bond funds having no manager investment.

Morningstar’s report offers only a few legitimate excuses for fund managers not to invest in their own funds. These might include “index” funds, “target-date” funds that do not meet the manager’s time horizon, single-state municipal bond funds where the fund manager lives in another state and situations where the manager is a foreign national from a country that bars investment in US funds. Those possible exceptions aside, I find it hard to imagine a mutual fund objective that couldn’t merit at least a small allocation of the fund manager’s own money, many of whom earn millions of dollars per year in management fees.

Perhaps the most interesting part of the study was Morningstar’s analysis of its own “Picks and Pans.” This is a service provided by Morningstar where they select funds that may be good long-term investments (the “Picks”) as well as mutual funds to avoid (the “Pans”). When analyzing management investment in these two groups, Morningstar found that the Picks had a median manager investment of $430,000, whereas the median investment by the fund managers in the Pan category was $0. On average, the Picks had seven times the manager investment than the Pans. Get the message?

While Morningstar is quick to point out that the lack of a manager’s investment does not necessarily doom a fund to poor performance, it certainly doesn’t do anything to help an investor’s confidence in the fund. I think this is especially true in light of recent shenanigans in the financial services industry such as last year’s subprime crisis and the mutual fund scandals just five years ago. Sadly, each of these crises highlighted events where personal self-interest outweighed the duty to put clients’ interests first.

Let me be quick to clarify that I’m not trying to equate managers who don’t invest in their own funds to those responsible for the subprime debacle and mutual fund scandals, but I do think it shows a sense of arrogance on the part of many mutual fund insiders that they expect investors to put money into funds that they won’t even invest in themselves.

Gary D. Halbert, ProFutures, Inc. and Halbert Wealth Management, Inc. are not affiliated with nor do they endorse, sponsor or recommend the following product or service.

The Importance of Personal Investment

Some in the investment world and financial press were shocked at the revelations of the Morningstar study, but not me. After evaluating money managers for over 30 years, it’s hard to be shocked by anything I might uncover. It has not been uncommon for me to come across professional money managers who do not invest in their own programs. Fortunately, I can also attest to the fact that there are many money managers who do put their clients first and do invest alongside them in the funds and programs they manage.

As noted above, I invest my own money in all of the programs my company recommends, which I feel is important. You should also know that I require the money managers that we recommend to “eat their own cooking.” The way I see it, if a money manager’s program isn’t good enough for his/her own money, then it’s certainly not good enough for you or me.

Simply put, if I am going to entrust my clients’ money, and my own money, to an Advisor, I want to know they have a significant percentage of their own money in their programs. If an Advisor doesn’t have his own money in his program, I consider that to be a major red flag.

Interestingly, most of the successful Advisors I have met do have a huge amount of their own money invested in their programs – sometimes even more than they should. When you read over some of the bios of our recommended Advisors, you will find that several of them got into the money management business primarily to manage their own money after retiring from another profession or selling a business.

Upon receiving large payouts, they could not find acceptable money managers for their nest eggs, so they decided to do it themselves. Thus, some of the managers I recommend only started managing money for outside investors after they devised a successful system for managing their own money.

On a more basic level, having both the Advisor and myself investing significant portions of our net worth alongside our clients shows our confidence in the programs we offer. The last question I always ask myself when considering a new Advisor is whether I want to invest my own money in his or her program. If the answer is yes, then we move ahead. If not, then you’ll never see that program on our list of recommended Advisors.

Other Questions To Ask

It is a mistake to assume that money managers, or mutual funds for that matter, will provide you all of their pertinent information voluntarily, especially if some of that information is negative. You have to know how to dig for the pertinent information, how to ask the right questions and press until you get the real answers. While performance databases such as Morningstar make it easy to crunch numbers, there are other important facts you can only learn by knowing to ask the right questions.

Below, I have listed a number of questions we ask as part of our due diligence process for money managers. Please note that these comments relate mostly to independent professional money managers, but the principles can be used for virtually any type of investment offering. Here are the questions you should ask before hiring a money manager:

1. Is The Performance Record For Real?

Assuming the Investment Advisor you are considering actually manages money, the firm will have a performance record of some sort. The first thing to determine is whether the performance is “actual” or “hypothetical” or a combination of the two. Hypothetical numbers are usually derived from a practice called “back-testing,” where a trading model is run against historical market data. Obviously, an actual track record (that really happened with real money) is preferable to anything hypothetical (a simulation that didn’t really happen with real money).

We don’t put much faith in back-testing because it’s a process whereby an Advisor takes its actual strategy and resulting recommendations and applies those signals to past market data before it began to manage real money in real market conditions. The obvious weakness to most back-testing is that it implies that future results will be similar to the past.

In over 30 years, I have never seen a hypothetical track record that didn’t look outstanding. Why? Who would advertise a bad one? No one.

Yet very few hypothetical track records actually succeed in real time, and I’ve never seen even one investment program match its back-tested results.

You also have to be careful of those in the investment world who will simply make up a completely bogus actual or hypothetical performance record and try to pass it off as real, hoping to fool unsophisticated investors. Fortunately, this practice is on the decline, but it’s always smart to ask to see actual brokerage statements that support the track record.

But it gets worse, unfortunately. We sometimes find that the Advisor has - consciously or unconsciously - tweaked its system or strategy to fit the historical data, a practice called “optimizing.” With the benefit of hindsight, the Advisor may see that one or more minor modifications to its strategy would have produced greatly enhanced returns in the past. How convenient! But it is in the past, and it’s the future performance we are concerned about.


Since most Registered Investment Advisors (RIAs) are not subject to the rigid performance reporting criteria applicable to mutual funds, a careful review (or ‘audit’ as we call it) of the performance numbers given by the Advisor is absolutely critical. In recent years, many successful RIAs have already taken that step and spent the money to have their performance record audited periodically by independent accounting firms.

Where an independent audit is not available, there are other alternatives. One such resource is the CFA Institute, which has developed a set of standardized performance reporting known as the Global Investment Performance Standards (GIPS). Advisors whose performance is “GIPS compliant” can represent that they adhere to the high ethical standards for creating performance information that ensure fair and accurate representation as well as full disclosure. Over the years, GIPS compliant performance reporting has become an industry standard.

Other sources of audited track record information are the various money manager databases that track the performance of active money managers. While some databases are obviously better than others, we prefer firms like Theta Investment Research, LLC where the performance information is derived from an actual account traded by the money manager.

In cases when there is no independent audit, GIPS compliant reporting or acceptable database information, my company requires the Advisor to provide detailed records of actual customer accounts, randomly selected, usually in the form of monthly brokerage or mutual fund statements. We compare the actual results in the customers’ accounts to see if they match the performance record provided by the Advisor. Believe me, they don’t always match!

On more than one occasion, we have visited Advisors that advertised outstanding results, but when we looked at the actual account statements, we found that the real performance was very disappointing. If so, we pack up and leave, right then and there.

It is important to note that individual investors may find it difficult or impossible to get this kind of information from an Advisor. While Advisors regularly provide such detailed information to another RIA like my company, which represents thousands of investors, many are hesitant to make detailed client information available to a single prospective client, unless it is a very large investment.

One last point on the performance record issue – in the past, I have had Advisors tell me that they could not show me their customer account statements for confidentiality reasons. Let me tell you, that’s a crock! The routine practice is to “white-out” the names on the customer account statements. If an Advisor tells you he can’t do this, consider that a big red flag!

Gary D. Halbert, ProFutures, Inc. and Halbert Wealth Management, Inc. are not affiliated with nor do they endorse, sponsor or recommend the following product or service.

2. What Is The Money Manager’s “Methodology”?

Once you have verified that the performance advertised by the Advisor is for real, the next step is to understand generally how the Advisor’s investment system works. There are many different types of investing strategies and trading systems. Some are fundamentally based; some are technically based; some are discretionary; and many are a combination of these approaches. Likewise, the use of computers and software varies widely.

Most successful money managers have a well-developed “methodology” that drives their systems. While successful Advisors tend to protect their “secrets” to success (ie – certain information is proprietary), they should be willing to explain generally to you how their systems work. Plus, it never hurts to sign a confidentiality agreement to put the Advisor more at ease.

If the Advisor cannot explain to us generally how the system works, that raises several questions for us: 1) Is there really a methodology and a system at all, or does the Advisor simply trade “by the seat of his pants?”; 2) Is the system so complicated that maybe even the Advisor himself doesn’t fully understand it?; or 3) Is the trading signal actually produced by someone else and simply given to the Advisor over the telephone or Internet?

Over the years, we have run into all of these issues when performing due diligence on professional money managers. Needless to say, we don’t recommend any Advisors who fall into any one of the above categories. It is sometimes a difficult process to determine whether an Advisor has real skill, or has just been lucky enough to produce a good track record. By developing a general understanding of how the Advisor’s system works, investors can better evaluate its performance.

3. Is There A Strong “Back-Office” To Handle Administrative Issues?

Successful Advisors must have a good performance record – that’s a given. But that’s just where it starts. Once an Advisor generates a signal to buy or sell, the administrative staff must be sufficient to implement the trades, see that they are executed properly and make sure they are allocated in the correct amounts to all the Advisor’s various clients. This operation is commonly referred to as the “back-office.” In addition to the back-office, there must be adequate administrative staff to be able to interface with clients and firms, like my company, that recommend the Advisor’s investment programs.

The best way to determine the sufficiency of the back-office operation is to conduct an on-site visit to the Advisor’s offices. In such visits, we review many facets of the administrative side of the business. This includes everything from how the system works, to trade execution, to account allocation, to client statement generation, and many other elements of the business.

In particular, it is important to determine that the Advisor’s staff is equipped to handle not only the current assets under management, but even more. Remember, if an Advisor continues to be successful, it will almost certainly accumulate a larger number of accounts and more assets under management. Ideally, the Advisor will have a long-term growth plan for adding administrative personnel at successive levels of increased assets under management. We also like to see that the Advisor has a serious commitment to the latest computer hardware, software, technology and the personnel to run it.

This is not to say that an Advisor must have a large number of employees to be considered successful. Many Advisors have outsourced administrative tasks to independent custodians such as trust companies, brokerage firms, mutual fund families and even other Investment Advisors. Again, the on-site due diligence review helps to confirm that these resources, coupled with the Advisor’s internal staff, can handle significant growth in assets under management that we or others may bring about.

The on-site visit has another beneficial outcome. It allows us to meet and talk with all of the principals and staff, and get a good feel for the organization as a whole. I maintain that there is nothing better than meeting an Advisor and his/her staff face-to-face in their offices. This is a very expensive effort (in our case we always send at least two people) but one that is well worth it! Unfortunately, this is not always possible for individual investors to do on their own.

4. Are There Any Regulatory Skeletons In The Closet?

Most professional money managers we evaluate are either registered with the Securities & Exchange Commission as Registered Investment Advisors, or with their state securities board. The regulatory agencies have strict rules that must be followed in order to avoid regulatory problems. Not all firms are compliant. You want a money manager that is serious about compliance with all applicable rules and regulations.

Appropriate due diligence requires that the regulatory history of the Advisor be examined to see if there have been any compliance problems in the past. Key personnel of the Advisor should be checked out as well. This is accomplished through review of required disclosure information, a search of the SEC or state regulatory database, background checks and a review of any reports from on-site SEC examinations.

It is important to realize that many Advisors also have affiliated companies that may be registered under other regulatory bodies such as the Financial Industry Regulatory Authority (FINRA), National Futures Association (NFA), etc. The due diligence process should include a review of the regulatory histories of all such related entities. Here, too, this is not always possible for individual investors to do on their own.

In addition to regulatory background checks, the principal traders should also be questioned about any significant personal situations that may have occurred in the recent past. An Advisor’s performance can be affected by a significant personal event, such as the death of a loved one, marriage, divorce or geographical move. All of these factors are also taken into consideration while doing a background check of the Advisor.

Finally, a regulatory review should also make sure that the Advisor has taken steps to comply with all regulatory requirements. Since compliance issues are designed to protect individual investors, we consider them to be very important, both at our firm and at any Advisor we may recommend. While we can’t evaluate the validity of any steps the Advisor has taken, we can determine if an effort has been made to be compliant.

5. Does The Manager Have A Backup Plan In Case Of Emergency?

Ideally, an Advisor will have a back-up plan in case of emergency. This could mean anything from a medical emergency or death, to an extended vacation, or even a power outage or disruption of Internet service. We want to see that trading can continue and that client accounts will continue to be serviced.

Even if an Advisor has a sufficient administrative staff or has outsourced back-office operations, this is no guarantee that someone could trade effectively in the absence of one or more of the Advisor’s principals. The optimum situation is that the Advisor has at least one or more individuals who are familiar with the trading methodology and the system and can continue the investment programs in the absence of the primary trader.

As a bare minimum, an Advisor should have someone designated who could unwind existing trades and take the program to cash, especially in the situation where the Advisor has died or become incapacitated or will have to be out of the office for an extended period of time. This gives investors more assurance that their accounts will not be locked into a trade during unfavorable market conditions because of the Advisor’s absence.

In the wake of 9/11 and hurricane Katrina, the SEC has stepped up its requirements that Advisors have Business Continuation Plans. A review of this plan is an important part of all due diligence reviews that we perform, and it should be on your list of questions to ask as well.

6. Does The Manager Continually Monitor The System & Make Adjustments?

A due diligence review of a money manager should also determine if the Advisor is using an antiquated system that never changes, or is constantly monitoring and periodically adjusting the model for current conditions. Over the last decade or so, we have seen market conditions that have no parallel in the past. Therefore, some Advisors’ trading systems were blindsided and generated large losses. Being able to adapt to ever-changing markets and market conditions is one of the most important due diligence requirements we have.

This is not to say that the Advisor should tinker with the trading system so much that the program may be significantly different from one year to the next. The types of changes I am talking about involve adjustments and refinements to the program to stay current with the ever-changing markets, technologies and information flow.

In addition, we require all recommended Advisors to notify us prior to implementing any material changes to the trading system. In addition, we monitor test accounts established with each Advisor on a daily basis in an effort to pick up on any changes in the trading methodology that the Advisor may have neglected to tell us about.

Gary D. Halbert, ProFutures, Inc. and Halbert Wealth Management, Inc. are not affiliated with nor do they endorse, sponsor or recommend the following product or service.


The recent Morningstar study revelations come as just more bad news about the actions and attitude of some players at the highest levels in the financial services industry. I suspect that the publication of this report will cause many fund managers to invest in their own funds, but for the wrong reason. I’d rather have a manager invest because he has confidence in his or her own abilities, rather than just to get off of Morningstar’s list.

Though the issue of whether or not money managers invest in their own programs is important, it’s not the only issue that needs to be addressed when evaluating professional money managers. The additional due diligence considerations I discussed above should give you a pretty good idea of what it takes to evaluate mutual fund managers, RIAs, managed account Advisors and hedge fund managers. Now all you have to do is apply these principles to the various investment alternatives you may be considering.

Unfortunately, most investors never take the time to ask even a fraction of the questions necessary to get the information discussed in this article. Most also have no desire to travel all over the country and conduct this type of intense due diligence. Even if they did, most investors are not equipped to evaluate the answers given to many of the questions discussed above or the operations of funds and Advisors.

The good news is that my company already has the staff, expertise, experience and the annual budget necessary to search for successful money managers and engage in the due diligence process on behalf of our clients. We also have the necessary hardware, software and database applications to be able to monitor performance on a daily basis as well as identify new prospective Advisors.

And remember that I have my own money invested with every Advisor and program we recommend. That’s how we monitor them on a daily basis.

If you are interested in the programs I recommend, give one of our Investment Consultants a call at 800-348-3601. You may also contact us via e-mail at [email protected]. You can also visit our website at www.halbertwealth.com to learn about the kinds of investment programs we offer.

Wishing you profits,

Gary D. Halbert

P.S. – Two weeks ago, I told you about an exciting new investment program from Scotia Partners, Ltd. that has shown the ability to thrive in the market’s recent high volatility. Many of you have called or completed our online information request to get more information about this impressive program. Some of our clients, however, have expressed a concern about investing after a 90%+ run-up in performance over the past 12 months, thinking that the program may be ripe for a retreat.

Actually, this is a very legitimate concern and one that we have considered as well. However, it is important to remember that Scotia’s trading model only seeks to be in the market on those days with the highest probability of success, and has historically been in the money market account apprx. 65% of the time. While there’s no guarantee that the Growth S&P Plus Strategy won’t pull back after this period of impressive performance, we think the more likely scenario is that the model may spend more time in the money market fund.

The Scotia Growth S&P Plus Strategy has gained apprx. 9.8% so far in June as of yesterday’s (June 21) market close. When this monthly gain is factored in with its May 31 year-to-date gain of 32.56%, the program is now up over 45% for the year. While past performance may not be indicative of future results, I think the Growth S&P Plus program deserves consideration as an aggressive part of your overall portfolio. Before making a decision to invest, be sure to read the Important Notes following the Special Articles. Click HERE to read my June 10 E-Letter introducing Scotia Partners.


Halbert Wealth Management, Inc. (HWM), Scotia Partners, Ltd. (SPL), and Purcell Advisory Services, LLC (PAS) are Investment Advisors registered with the SEC and/or their respective states. Information in this report is taken from sources believed reliable but its accuracy cannot be guaranteed. Any opinions stated are intended as general observations, not specific or personal investment advice. Please consult a competent professional and the appropriate disclosure documents before making any investment decisions. There is no foolproof way of selecting an Investment Advisor. Investments mentioned involve risk, and not all investments mentioned herein are appropriate for all investors. HWM receives compensation from PAS in exchange for introducing client accounts. For more information on HWM or PAS, please consult Form ADV Part II, available at no charge upon request. Any offer or solicitation can only be made by way of the Form ADV Part II. Officers, employees, and affiliates of HWM may have investments managed by the Advisors discussed herein or others.

Historical performance data represents an actual account in a program named Scotia Partners Growth S&P Plus, custodied at Rydex Series Trust, and verified by Theta Investment Research, LLC. Estimate for mid-June 2008 is from the Theta tracking account. Since all accounts in the program are managed similarly, the results shown are representative of the majority of participants in the Scotia Partners Growth S&P Plus. The signals are generated by the use of a proprietary model developed by Scotia Partners. Statistics for “Worst Drawdown” are calculated as of month-end. Drawdowns within a month may have been greater. PAST RESULTS ARE NOT NECESSARILY INDICATIVE OF FUTURE RESULTS. Mutual funds carry their own expenses which are outlined in the fund’s prospectus. An account with any Advisor is not a bank account and is not guaranteed by FDIC or any other governmental agency.

When reviewing past performance records, it is important to note that different accounts, even though they are traded pursuant to the same strategy, can have varying results. The reasons for this include: i) the period of time in which the accounts are active; ii) the timing of contributions and withdrawals; iii) the account size; iv) the minimum investment requirements and/or withdrawal restrictions; and v) the rate of brokerage commissions and transaction fees charged to an account. There can be no assurance that an account opened by any person will achieve performance returns similar to those provided herein for accounts traded pursuant to the Scotia Partners Growth S&P Plus trading program.

In addition, you should be aware that (i) the Scotia Partners Growth S&P Plus program is speculative and involves a high degree of risk; (ii) the Scotia Partners trading program’s performance may be volatile; (iii) an investor could lose all or a substantial amount of his or her investment in the program; (iv) Purcell Advisory Services will have trading authority over an investor’s account and the use of a single advisor could mean lack of diversification and consequently higher risk; and (v) the Purcell Advisory Services trading program’s fees and expenses (if any) will reduce an investor’s trading profits, or increase any trading losses.

Returns illustrated are net of the maximum management fees, custodial fees, underlying mutual fund management fees, and other fund expenses such as 12b-1 fees. They do not include the effect of annual IRA fees or mutual fund sales charges, if applicable. No adjustment has been made for income tax liability. Money market funds are not bank accounts, do not carry deposit insurance, and do involve risk of loss. The results shown are for a limited time period and may not be representative of the results that would be achieved over a full market cycle or in different economic and market environments.


"Gary D. Halbert, ProFutures, Inc. and Halbert Wealth Management, Inc. are not affiliated with nor do they endorse, sponsor or recommend any product or service advertised herein, unless otherwise specifically noted."

Forecasts & Trends is published by ProFutures, Inc., and Gary D. Halbert is the editor of this publication. Information contained herein is taken from sources believed to be reliable, but cannot be guaranteed as to its accuracy. Opinions and recommendations herein generally reflect the judgment of Gary D. Halbert and may change at any time without written notice, and ProFutures assumes no duty to update you regarding any changes. Market opinions contained herein are intended as general observations and are not intended as specific investment advice. Any references to products offered by Halbert Wealth Management are not a solicitation for any investment. Such offer or solicitation can only be made by way of Halbert Wealth Management’s Form ADV Part II, complete disclosures regarding the product and otherwise in accordance with applicable securities laws. Readers are urged to check with their investment counselors and review all disclosures before making a decision to invest. This electronic newsletter does not constitute an offer of sales of any securities. Gary D. Halbert, ProFutures, Inc. and all affiliated companies, InvestorsInsight, their officers, directors and/or employees may or may not have investments in markets or programs mentioned herein. Securities trading is speculative and involves the potential loss of investment. Past results are not necessarily indicative of future results.

Posted 06-24-2008 2:06 PM by Gary D. Halbert