Like every good leader, I want to guide you to prosperity, some financial prosperity, but the truth is that the force is with you Skywalker. I don’t want to go all “seize your own destiny” on you, but well, what you do is on you. Hopefully this will help to smooth out the ride.

SO, after looking at the types of mutual funds, you’ve hopefully got a pretty good idea about which type(s) of mutual fund(s) you want and where to start looking for this elusive animal we call the “perfect” mutual fund. But you are still at a bit of a loss at which to choose. I mean you don’t want the scraggly, sickly one at the back of the herd. You want a freakin’ stallion, baby. You want the muscle-ripped beast of mutual funds, but after a quick Google search, you’ve come up with an onslaught of choices, and you don’t know what to do with them all.

You need to know what qualities to look for in your stud. Unfortunately, it all comes down to taking a seat and doing the work. To make that work a bit easier, take a gander at our Fund Buyers Checklist to help you focus on some of the right things.  Additionally, you should take a look at the prospectus (a breakdown of the details of a fund), and you can also get research from analyst reports typically offered by your brokerage account provider.  Some websites do a nice job as well including Yahoo Finance. You’ve gotta know the goods you’re gettin’ before you buy them.

So, what should we be looking for? What’s important? Here’s some help to keep you from feeling like you just got trampled by the herd…with even the sickly gnu stomping on you a bit. It’s broken down into looking at individual mutual funds and standards to judge them by, but let’s start with a nice terminology breakdown too.

Individual Mutual Funds

• Active or passive investing? Active investing is having a team of professionals investing for you.  Basically, they are picking stocks in an attempt to outperform the market.  If you spent some time looking at historical results, typically less than 50% of actively managed mutual funds beat their market index.  Passive investing is basically having a computer invest for you. In passive investing, computers use indexes to pick stocks. Statistically, neither is better than the other. Passive investing generally has lower fees because active investing pays for a lotta researchers running around trying to figure out the best things to invest in and when to do so.
• Investment strategies are kind of important. Having someone do all the work for you is pretty sweet, but it also means that you don’t really have a say in what they are buying for you. You want to know the guidelines for their investments. Are they going to be investing in small companies? Large ones? Stocks? Bonds? Both? Are they looking at green companies? Ones that don’t support guns, tobacco, and alcohol companies? The Athenians in ancient Greece, outnumbered, sent the Persians back home because of their superior strategy (namely the phalanx in case you’re interested). Strategy can work wonders, and you want wonders when it comes to your money.  You can find the details surrounding an individual funds strategy in the Prospectus.
• Fees suck the fun out of investing. Fees can take a huge chunk out of potential profits, and what’s worse, they still hang around (like a creepy old guy that can’t get over the fact that he graduated from high school many moons ago) when you don’t make any profits. The fees may be worth it, but just double check. You don’t want to be screaming at your computer because you feel like they’re ripping you off. It’s unpleasant for everyone and can get you stamped as a crazy person.
• Laughing Buddha says, “In past, you find chicken nugget of truth.” You’ll want to look at past returns over a long period of time (i.e. years, as in multiple, not months). It’s not a definite indicator for the future, but it can show how consistent the mutual fund is. A continuously tanking mutual fund is not a good sign. It’s not necessarily an indicator that they are managing the fund well, but neither should you take it lightly. Compare the facts of the past and use your judgment for your own decisions on the future.  Maybe the most truthful moniker you’ll see throughout mutual fund marketing materials is the notion that “past performance is not necessarily an indicator of future performance”… take heed.
• Check out the risk. Don’t jump off a cliff without making sure there aren’t sharp pointy rocks at the bottom. The prospectus should explain the possible risks. You want to balance the possible risk against how much you want to invest. Make sure that you aren’t risking more than you can afford to lose.  One common definition for investment risk is; a deviation from an expected outcome and that deviation can be good or bad.  For you finance and math majors, you know the formulas – Standard Deviation.  But that is only part of the story from an absolute perspective, please, please, please don’t forget to consider your appetite for investment risk, e.g. are you willing to lose a lot with the opportunity to make a lot?
• Know thy rules. Mutual funds are not overly exclusive clubs, but generally they do have investment minimums, meaning you have to invest at least a certain amount. Also, understand the rules of buying and selling your mutual fund to avoid fees and manage taxes.
• Like the Feds, do background checks. Look at the experience and background of the people that are investing your money. Sure everybody has to start somewhere, but do they have to start somewhere with your money?  It’s nice and all that they graduated from

Newbie University, but you want to know that your money is in experienced hands.

Standards to Judge By

• Morningstar ratings are the movie critics of the financial world. Like movie critics, they use a five star system, one meaning it rates low and five meaning it rates high. They rate mutual funds, among other things, so it’s definitely something to consider. These people know what they are talking about, and they won’t be gentle about it either. There are questions about how accurate Morningstar is in predicting the future. Morningstar rates the past performance, and that does not predict the future. Morningstar simply shows that a company has proven themselves, or maybe, that it’s having a particularly bad year. Couple these ratings with your judgment.
• Find the sexiest mutual fund by comparing it to its friends. Chances are that there are mutual funds similar to the one you are investing in. You can compare performance in one mutual fund to other mutual funds investing in similar parts of the market. You can also judge fees and all. That. Jaaaaazzzzzzzzz (waving of Jazz hands). You can also compare it to available relevant indices, which will allow you to compare its performance to the broader targeted market (international markets as an example) as well as specific competitor mutual funds.
• Boxes can help!

When investing, you want a happy medium, e.g. a diversified portfolio.  Style Boxes are tools to help you think through a diversified portfolio as it categorizes equities (stocks) and fixed income (bonds) investments into groups.  Mutual funds can be categorized into these buckets as well.  Schedule time with your personal finance guide to dig deeper into this topic!