Quick Guidelines for Investing in Mutual Funds

Investing GuidelinesThe shrewd investor weighs several factors before making an investment, including costs, risk, and performance. This is no different when it comes to investing in mutual funds. Depending on where you are in life, your investment goals will differ from one person to the next. Having clear set goals will help you pick the mutual fund that will give you the best returns for your investment. Despite what your goals are, there are several distinct factors you can use when choosing the mutual fund that is right for you. Thoroughly researching your options before investing is always recommended, and these guidelines will help you get started.

The Expense Ratio

When it comes to expenses, the lower, the better. Although these guidelines are in no particular order, this is perhaps the most important factor. The lower the expense ratio, the more likely the fund is looking for efficiency in investing as it is the case that many investors focus on returns. A low expense ratio on a mutual fund means that when the market is not performing, you stand to lose much less as you are not paying for an actively managed fund.

The Morningstar Rating

Morningstar is an independent provider of investment research for both the U.S. and internationally. It is a free service available to investors to look up the evaluations of any mutual fund or other investment. Each fund rated by Morningstar is given a ranking from one to five stars. They provide a clear and detailed description of how their rankings are formulated here.

The 5-Year Return

The 5-year return can be viewed as your short term growth prospect. It provides a history of almost one full economic cycle, so it gives you a pretty good indication of how it performs in the current state of the economy.

The 10-Year Return

The 10-year return gives slightly more than a full economic cycle’s worth of data. Comparing the 5-year return to the 10-year return helps you determine the solidity of the investment over time. If the two are not similar in returns, it may be a good indication that more research is required before making an initial investment.

The Turnover

A fund’s turnover rate represents the percentage of a mutual fund that has changed over the course of the past year. Generally speaking, the lower the turnover, the better. A high turnover may provide you with high returns, however for tax purposes this is not a good investment.

The Investment Philosophy

It is usually a good idea to know what the goals are of the mutual fund managers and why they invest the way they do. If you are on the lookout for a particular investment strategy, you can typically find the answers to your questions in the prospectus of a fund.

Additional Fees

It is a good idea to thoroughly look over a mutual fund for additional or hidden fees before making the choice to invest. Usually the website contains this information. It may be a bad sign if it is hard to locate a detailed description of fees on the brokerage’s website. Standard Life does a wonderful job of displaying all fees up front. They also have tools available that take a lot of the legwork out of researching mutual funds.

Hopefully before making any purchase, major or minor, you thoroughly research what it is that you are buying. In the case of mutual funds, this practice should not waiver. Your money is valuable and it should be placed in funds that are going to provide the most return for your dollar. Taking the extra time up front is well worth it in the long term and if your research is thorough, it hopefully is the only work you will have to do when it comes to investing.

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  • http://www.myfijourney.com My Financial Independence Journey

    When it comes to mutual funds, I don’t waste my time with anything other than index funds and try to find the lowest expense ratio out there.

  • http://thechicagofinancialplanner.com Roger @ The Chicago Financial Planner

    You make some excellent points Robert. One key element in the evaluation process is to compare apples to apples. If you are looking at a mutual fund in Morningstar’s Small Blend category the fund’s performance should be reviewed in comparison to other Small Blend funds. A comparison to say an Emerging Markets equity fund is not useful or even meaningful in building a portfolio in my opinion. In fact the first step in building a portfolio should be determining your asset allocation and then looking for the appropriate mutual funds, ETFs, etc. to fill in the allocation “buckets.”