Young & Invested: An overlooked driver of ETF performance
Why choosing the right ETF provider matters more than you think.
Welcome to my column, Young & Invested, where I discuss personal finance and investing for Gen Z and Millennials.
This column aims to be a resource for young investors navigating an ever changing financial, political and social landscape as they try to build wealth. Tune in every Thursday for the latest edition.
Edition 51
A lot of investors obsess over what ETF to buy next. Whether it’s chasing an emerging theme or trying to determine which performance table looks the sexiest. The insistence on the ‘what’ often forgoes any thought toward the ‘who’. This isn’t intended to be a Dr Seuss piece, so let me explain what I mean.
With over 400 ETFs on the ASX, it can feel like products are blending into one. Fees are slowly converging and new index methodologies don’t appear to be anything revolutionary. When things look similar on the surface, a powerful differentiator can be the people running the fund.
Behind every ETF sits a fund provider who you’ve trusted with your money and makes numerous decisions on your behalf. I find it strange there isn’t much emphasis on this in the decision-making process.
Why do we care who runs our ETF?
Ever wondered what makes a fund successful? One important factor is the team running the fund. As investors, we can spend so much time trying to control for things we simply can’t. Unless you’re in possession of a crystal ball, your portfolio may fall victim to inflation, interest rates or Trump’s latest Truth Social musings. It’s a never-ending list.
Luckily, the list of things we can control is much shorter. One of these is the quality of the fund provider and their experience, culture or stewardship. This decision may matter more than you realise.
Morningstar’s People Pillar is designed to cut through that noise and help investors understand which fund managers have the ability to deliver for investors over the long haul. If you’re choosing between ETFs that look almost identical, this can be where the real differences show up.
Morningstar’s Manager Research team recently published a report on our Parent rating framework and some of the attributes of fund success. Today I’ll be looking at select insights from the report.
How we assess fund providers
I remember being a kid and nervously asking my parents if I could go to a friend’s house on the weekend. Their first question was always the same: whose parents will be there? Anddepending on my answer, the response was either a quick yes or tentative we’ll see.
The Morningstar Parent Rating Framework is conceptually similar. Essentially, it’s a way of asking who the adults in the room are and whether they’re someone we trust. Parent ratings (like the other pillars of the Morningstar Medalist Rating) fall on a five-point scale: High, Above Average, Average, Below Average and Low. This rating makes up 10% of an ETFs* overall Medalist Rating or 25% if we’re talking super funds.
The parent rating looks at two big things: the firm’s investment culture and the way it runs its business. On the investment side, we’re looking for firms that attract, develop, and retain talented people.
Some personnel turnover at any company is natural, but we find the best firms plan succession properly, pay managers for performance (not asset gathering) and encourage managers to invest in their own strategies alongside their clients.
On the commercial side, it’s all about the operational stuff that investors rarely see but absolutely feel in their outcomes. It includes things like fair fees, thoughtful product design, not launching gimmicky strategies without investment merit and making sure their firm is properly resourced to manage a fund.
Leadership also plays a huge role here given the best firms have a clear vision and make decisions that support long‑term investors and not short‑term sales targets. We don’t think firm size determines quality either, it’s entirely possible a tiny boutique can be just as well‑run as a global giant. Importantly, regulatory issues can drag a Parent rating down, especially if they suggest the firm isn’t acting in investors’ best interests.
What do the stats look like?
Half of the firms our analysts cover end up with an Average Parent rating. Now that might seem high, but that’s largely because our coverage focuses on the biggest and most influential players in each category aka the ‘best-in-class’. Accordingly, we see from the figure below that the stats don’t follow a normal distribution.
A fund being rated Above Average doesn’t imply they’re flawless, but they generally offer strong strategies and make sensible decisions around things like succession planning, fees and product development. On the other hand, Below Average parents might have a few compelling strategies but often dilute them with gimmicky products, higher fees or weak succession planning.
At the extremes, both High and Low Parent ratings are rare. We think high-rated firms set the standard for the industry. A Low rating means such parents may have several operational issues or poor fund management approaches that it’s difficult to muster the conviction they will last for the long term.
A good guide to future success
Why does any of this really matter?
Our Parent ratings have turned out to be a pretty reliable guide to which fund providers are likely to deliver for investors. When you line up firms by their Parent rating and then look at how their funds performed over the next decade, a clear pattern emerges.
The metric we use here is the success ratio, which represents the percentage of a parent’s funds that both survive and beat the median peer in their category over a given period.
Looking back roughly a decade, more than 20 firms were ascribed a High parent rating and over the subsequent 10 years, more than half of those funds survived and outperformed their peers on average. If we compare that with the ~150 firms with an Average rating at the time, less than 30% of their funds met the same definition of success.
It’s easy to look at that graph and think these success ratios look low across the board. But that’s partly because this analysis covers every strategy a firm offers globally and those product shelves naturally evolve over time. What it is glaringly obvious here is the directionality of higher ratings and higher success rates.
Does expensive always mean better?
There are two key dimensions we look at from a firm’s product management side: fees and lineup turnover.
One of the clearest patterns in the data is the link between low fees and better investor outcomes. But it isn’t exactly surprising given cheaper funds tend to outperform because they leave more of the return in an investor’s pocket.
We rank parents by comparing the fees of each of their funds to others in the same category, then average those results across the entire firm. It’s a straightforward way of understanding whether a provider consistently offers good value or tends to charge more than competitors.
Across every period we looked at, the parents with the lowest fees delivered the highest success rates, both in absolute and risk‑adjusted terms. Over the 10 years to December 2024, the most affordable firms achieved an average risk‑adjusted success ratio of 50%, whilst that figure was just 24% for the most expensive firms.
Having moved out of home two years ago, I’ve had to learn a few things the hard way. As it turns out, separating laundry colours is not optional and homebrand products are just the universe’s way of mocking anyone who pays full price. With investing it’s the same thing in a different box. I’m not funding the marketing department of a fund manager. I find it helpful to approach my investments with a similar sentiment.
Lineup turnover
Lineup turnover refers to all the fund launches, mergers and shutdowns a firm goes through. If firms are constantly merging or closing funds, it usually means those products didn’t attract enough assets or simply weren’t working. Cutting down the weeds should theoretically promote success over the long term, but the results beg to differ.
Firms with higher turnover that were constantly reshuffling product shelves kept struggling in the years that followed. Meanwhile, firms that made less changes delivered the strongest subsequent performance. In short, if you notice a fund provider is always launching something new and quietly burying last year’s mistakes, that churn is likely to weigh on investors.
Concluding thoughts
No one invests to lose money. While there are plenty of forces that drive ETF returns, it never hurts to widen the lens beyond the factors we’re constantly told to focus on.
The Morningstar Parent rating reflects only one pillar of the overall fund Medalist Rating methodology. No one datapoint or set of them can definitively predict which firms will prove to be good administrators. But in the scope of this study, it was found that Morningstar’s Parent ratings, fees, and past performance had the strongest relationship to subsequent success. The good news is that many of these factors are well within our control when picking assets.
Below is a snap shot of the current parent pillar ratings for some of the largest fund providers in Australia.
Our analysts cover more than 350 parent firms across traditional mutual funds, exchange-traded funds, separate accounts, models, and other vehicles. Download the report for the latest insights in full.
*Parent ratings account for 10% of the Medalist Rating for open-end funds, ETFs, separately managed accounts, models, and collective investment trusts.
