How to Choose a Mutual Fund
Mutual funds are a favored investment of many investors because they offer a hedge against a downturn in the market. A mutual fund is like a bag full of positions that are managed by a fund manager. The positions can all be from the same sector or from many different sectors. This innate diversification within one investment vehicle allows new and old, experienced and inexperienced investors to enjoy the inherent protection these securities offer.
With so many mutual funds on the market, it can be really hard to decide which one is right for you. Here is a step-by-step guide to help you choose a mutual fund that enhances your portfolio.
1. Determine your risk tolerance.
Every investor has a different tolerance for risk. Some are willing to lose it all just for the chance to make double-digit returns, and others would prefer an extremely low return in order to make sure they're not at risk to lose their principal.Still others remain somewhere in the middle. You must decide what you are willing to risk to make what you wish to gain and stick with mutual funds that are in that risk area.
2. Follow your instincts.
Look for mutual funds with underlying securities in any sectors you are bullish about and avoid those you are bearish about If you think retail stocks will be down over the next ten years, you may not want to invest in a mutual fund full of them. If, however, you think tech stocks are going to go through the roof, then a mutual fund full of tech stocks is right up your alley.
3. Look for CDSC charges.
If you sell a mutual fund that you haven't held very long, you could be assessed a sales charge called contingent deferred sales charge. Some mutual funds have this charge, but not all do. Try to find a mutual fund that does not so that you have the freedom to sell if need be without incurring additional charges.
4. Choose a mutual fund with a low expense ratio.
Mutual funds have managers, staffs, and other expenses that must be paid. this results in a small charge to your mutual fund holding each year called an expense ratio. Getting a mutual fund with an expense ratio of less than 2% is good, but ideally you should shoot for 1% to 1.25%.
5. Look at the five and ten year performance.
A mutual fund is only as good as the income it can generate for you either through dividends or market value increases. Review the history of your mutual fund to make sure it has a history of delivering returns that you are comfortable with.
