For the past eight years, Canadians have benefited from the endeavours of the Canadian Investment Funds Standards Committee.

The vision of its founding members, who brought competing fund data providers together to develop a fund categorization system that would form the baseline for defining investment fund peer groups, has provided the Canadian investment fund industry and investors with a unique service unequalled anywhere in the world.

No other country has been able to establish a common fund categorization system that is used by all the fund rating providers doing business in the country as their baseline for determining the peer group into which various investment funds fall.

Therefore the news that Morningstar Canada has decided to withdraw from the CIFSC has left many people with strong feelings of loss and dismay. Morningstar and its key staff members — in their various roles both before and after joining Morningstar — have been the driving force behind the CIFSC. It was not a decision Morningstar took lightly.

Why did Morningstar withdraw, and what are the implications for the continued use in Canada of a common fund categorization system?

Reading between the lines, it seems the CIFSC’s underlying problem is that it is a volunteer committee made up of 15 members with no independent resources to fund or carry out its work and no bottom-line accountability (beyond members’ reputations) for the timeliness and rigour of its work.

Meanwhile, Morningstar had been devoting a huge amount of its time and resources to performing the portfolio analytics work for the CIFSC and otherwise supporting the CIFSC’s work and Web site.

There have been growing concerns about the frequency and rigour with which the CIFSC was monitoring the fund categories to ensure the appropriateness of their categorization. In addition, there often has been resistance (sometimes acrimonious) from fund managers when the CIFSC recategorized funds.

There also have been concerns about the need to re-examine existing CIFSC fund categories and set new parameters to reflect the increasing number of specialty mandates, the growing variety of balanced funds and the impact of the removal of the foreign-property limitations on Canadian equity fund categories.

Another issue facing the CIFSC is whether there is a need for a separate Canadian income trust category, given the inclusion of income trusts in the Toronto Stock Exchange equity index.

Yet another problem is the fact that fund-rating services are using different fund categorization universes for segregated funds and mutual funds, and the CIFSC’s inability to standardize them.

Although the problems seem straightforward enough, their resolution is not. Morningstar’s frustration with the slow rate of progress in the CIFSC’s ability to address the issues, combined with a lack of sufficient, broadly based committee participation and committee-wide capability to monitor categories, seems to have prompted its decision to withdraw from the CIFSC and go its own way.

In addition, some think Morningstar’s efforts were taken for granted within the fund-measurement industry — a timely reminder that, for co-operative measures to work, people need to pull their weight.

Meanwhile, Morningstar is developing its own fund categorization system to deal with the issues the CIFSC was not able to. Its system will probably be launched this summer. How fund categories are formulated and monitored will have a significant impact on asset allocation and the sale of investment products. It does not bode well for investors to have competing systems of fund categorization.

Although talks are being held between Morningstar and various CIFSC participants, it seems that, regardless of their outcome, the current era of fund categorization is ending.

What matters most is how well investors will be served by what takes its place.

Canadians were well served by the CIFSC’s original vision. And for that, the founding members deserve our thanks. IE