Trying to pick the right mutual fund can seem like trying to find a needle in a haystack. The entire process can seem endless with hundreds of fund companies offering thousands of different mutual funds. Don’t fret! We’re here to help. There are specific criteria that you should use to evaluate whether a fund is right for you. Here are four things that you should look at when trying to pick the right mutual fund.
#1. Find a fund that is suitable to your investment strategy.
- Is the fund’s purpose in line with your goals?
- Does the fund have as much risk exposure as you are seeking?
- What specific stocks does the fund own?
- How often does the fund buy and sell stocks?
Be sure to look for a fund that meets all of your expectations. Most fund companies offer growth, value, and blended funds. Growth funds look to buy stocks that have above average growth rates. Value funds look to buy stocks that have been beaten down and are currently out of favor. Maybe you would prefer to invest in a hybrid fund. Blended funds look to combine both growth and value stocks into one fund. If you are looking for maximum risk, check out a small cap growth fund. There is little use in purchasing a large cap fund that owns Microsoft and Walmart if you are looking to maximize long term capital appreciation.
#2. Find a reputable company with a solid long term track record.
Pick a fund family with an established name and a solid track record of at least 10 years. Vanguard, T Rowe Price, Fidelity, and Janus are industry stalwarts and are well regarded by most people in the financial services industry.
Also, look for funds that have historically outperformed their benchmark index over the past five years. Compare the fund to other funds in the same category. Determine how well the fund has held up compared to similar funds. Look up the fund’s rating. Morningstar is a useful site to help you narrow down your investment choices. Morningstar rates mutual funds based upon their historical performance. Avoid fly by night companies with short term track records. You don’t want to be involved in the next Ponzi scheme.
#3. Look for funds with a low expense ratio.
Stay away from mutual funds with high expense fees. Always look for a fund with annual fees less than 1%. Avoid funds with 12b-1 fees and sales charges (front and back loads). High fees will eat up your investment returns over time. Imagine if you bought a fund that charges a 3% management fee every year. You would end up losing 30% of your investment to expenses over a 10 year time period. Over 80% of mutual funds struggle to outperform the market so there is no reason to pay extra money for below average performance. Investors are better off purchasing an index fund than an underperforming fund with high fees.
#4. Look for a strong management team.
Many investors that chase a mutual fund’s past performance are unaware that the current management team was not associated with its past record. Successful fund managers often leave companies for greener pastures or to start their own fund. New investors pour money into the fund manager’s old fund and wonder why the fund fails to duplicate its past results. A good example of this is the Fidelity Magellan Fund. Ever since famed investor Peter Lynch left Fidelity, the Magellan fund has significantly underperformed the stock market. Look for good management teams that have been with the company for at least 5 years.
What about you? What is the most important factor to you when picking a mutual fund?