The Morningstar Factor Profile shows an equity portfolio’s exposure to seven standard investment factors that are broadly accepted in the investment industry as being important drivers of risk and return. At a glance, investors can use this new visual—and the underlying data—to better understand their holdings, diversify portfolios, manage expectations, and anticipate outcomes.
How do you define the seven factors?
The style factor describes the aggregate expectations of market participants for the future growth and required rate of return for a stock, based on the same measures used for the Morningstar Style BoxTM. A higher exposure to the style factor indicates higher growth.
The yield factor describes the dividend and buyback yield of a company, based on the trailing 12 months. A higher exposure to the yield factor indicates higher yield for investors.
The momentum factor describes how much a stock has risen in price over the past year relative to other stocks, calculated by subtracting the trailing one-month return from the trailing 12-month return. A higher exposure to the momentum factor indicates the company has performed well recently.
The quality factor describes the profitability and financial leverage of a company, based on an equally weighted mix of trailing 12-month returns on equity and debt-to-capital ratios. A higher exposure to the quality factor indicates a higher quality of the firm.
The volatility factor describes the maximum-observed spread in long-term returns, based on the trailing 12-month standard deviation of daily returns. A higher exposure to the volatility factor indicates larger variation in long-run outcomes.
The liquidity factor describes the trading frequency of a company, based on trailing 30-day share turnover. A higher exposure to the liquidity factor indicates higher share turnover.
The size factor describes the market capitalization of a company, based on the same measure used for the Morningstar Style Box. A higher exposure to the size factor indicates smaller market capitalization. (Though we plot large-cap exposure at the top of the size capsule to simplify the Factor Profile visual and keep all “high” or “large” indicators aligned at the top).
How are the exposures calculated and plotted?
We begin by calculating the exposure of each of the portfolio’s underlying equity holdings to each factor and assigning a percentile ranking relative to the entire global-equity universe.
We then calculate a weighted average-percentile ranking for the entire equity portfolio and plot that on a scale of 1 to 100 in the Factor Profile capsules, with 1 typically plotting at the top of each capsule and 100 at the bottom. For example, a portfolio with a Style ranking of 1 would have a high growth tilt, while 100 would indicate an extreme value bias. Note: For the Size factor, the scale is flipped, with 100 (large) on top and 1 (small) at the bottom. This helps simplify the Factor Profile visual by keeping all “high” or “large” indicators aligned at the top.
The visualization reflects the portfolio’s current exposure (dark blue dot), how it has varied over time (light blue shading), and how its current position compares with its Morningstar Category average or a benchmark (black dot marker).
For which security types is Factor Profile available?
The Factor Profile is available for equity-mutual funds and ETFs. To accurately measure factor exposures, sufficient coverage of a fund’s holdings is required. The current coverage threshold is set at 80% of total portfolio weight, which includes over 40,000 portfolios.
The Factor Profile visualization is available through the security reports in Morningstar Direct and Office (desktop and web-based), Advisor Workstation, and Morningstar.com. The underlying Factor Profile percentile-ranking data is available in the grid/screener of web-based Direct for funds and ETFs.
We also calculate Factor Profile data for separate accounts and variable annuities and will be making plans to surface that data in the future.
How is Factor Profile similar to and different from the Morningstar Style Box?
Factor Profile builds on the Morningstar Style Box by including the traditional style and size factors while adding five additional drivers of risk and return: yield, momentum, quality, volatility, and liquidity. We use the same methodology to calculate the style and size factors in both Factor Profile and Style Box but then we take the extra step of translating them to percentile rankings relative to the global-equity universe. We do not have plans at this time to replace or alter our Style Box or categorization system based on Factor Profile.
How are these seven factors related to the other factors included in the Morningstar Risk Model?
We use Morningstar’s Global Risk Model engine to calculate the raw data for the seven standard factors shown in Factor Profile, as well as many additional Morningstar proprietary factors included in our Risk Model offerings. Morningstar software users can now access the seven new standard factors (“Standard Factor Model”) alongside Morningstar’s proprietary models in our Risk Model components.
Morningstar products display factor-exposure data as percentile rankings in some places and as z-scores in other places—what’s the difference and how do they relate?
Z-scores, a standard statistical measure reflecting the number of standard deviations away from a mean, are used to quantify factor exposures for all factors, including the seven new factors in the Factor Profile, in Morningstar’s Risk Model components. For grid/screener in web-based Direct and to plot the Factor Profile visual, however, we translate the z-scores into easy-to-interpret percentile rankings so investors can see how stocks and funds are positioned relative to peers.