What the pros consider when choosing mutual funds

Have you walked down the cereal aisle of your grocery store lately? Today, there are more brands of cereal - and more varieties of each brand - than ever before. It can be difficult to make sure you get what you really want, but if you make a bad selection, you're only out a few dollars.

If you think choosing from 100 different cereals is difficult, try picking from about 6,000 different mutual funds. Not only are there more choices, but if you wind up with the one you don't like, you're out much more than a few dollars.

More and more people are trying to select mutual funds on their own. Choosing from more than 2,000 stock funds, plus tax-exempt funds, government funds, and money market funds, not only staggers the novice investor but overwhelms the professionals. And simply paying a commission and blindly going along with a salesperson's recommendation is no assurance you'll get the right fund. Ultimately, success in selecting the right fund for your needs depends on you asking the right questions.

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What are those questions?

Before you begin comparing funds, first decide on a specific investment objective. State in simple terms what the money is for. Then decide how long you plan to invest. Short-term money does not belong in stock mutual funds.

In August 1987, for example, the stock market began a downturn that included a one-day 500-point drop in the Dow Jones Industrial Average in October of that year. During that period, the average stock fund lost 29 percent. If you had bought a stock fund in August hoping to buy Christmas presents with your profits, you would have been disappointed.

Long-term investors, however, have fared much better. In more than eight years since then, the average stock fund is up 111 percent.

After these two questions, you can begin comparing the wide variety of available mutual funds. What factors should you evaluate in your search? Consider what the professionals think is important.

Mutual Funds magazine recently surveyed 100 mutual fund professionals to see what they look for when recommending stock funds for their clients. More than half said they look for "consistently good results over a long period of time." These professionals were not concerned with short-term results, but rather consistent performance over at least a 10-year period.

Another factor considered important is consistent portfolio management style. This quality, listed by 66 percent of the survey participants, is the discipline by the fund's managers to establish specific investment criteria and stick with them rather than trying out whatever is in vogue.

A long-term track record and consistent style mean nothing if the fund manager responsible for those two qualities is no longer there. More than 60 percent of the investment professionals said the longevity of the fund's current manager is a vital concern. Professionals want to experience, and the longer, the better.

The survey also uncovered numerous other concerns important to mutual fund professionals: 

  • Risk 48% 
  • Expenses 22% 
  • How soon client will need money 22% 
  • Past performance vs. peers 18% 
  • Portfolio composition 18% 
  • Fund family affiliation 14% 
  • Good performance in down markets 8%

These concerns should guide you in your choice of mutual funds. They require research either by you or the representative who offers the funds. The more information you have, the easier it will be to choose the right fund for you. 

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