Military Financial Advice - Military Times

3 steps to finding the right mutual fund investment

Many people are familiar with mutual funds as an investment, but few people have a coherent strategy for mutual fund investing.

When selecting a new mutual fund investment, most people get a copy of Money magazine and pick the fund that has performed best over a one- to three-year period. This strategy seldom works over the long term.

Statistically, the funds that fared best in the previous year are seldom the funds that outperform in the future.

Investing has fads just like anything else, and by the time the public becomes aware of the investing fad of the moment, the professional investors have moved on to the next big thing, leaving last year’s winners in the dust.

The three most valid criteria for selecting a mutual fund investment are: good performance over a long period of time, low annual expenses and an investment manager that has been with the fund for a long time.

Long-term performance

Of these criteria, consistency of performance is by far the most important. If your fund goes up 100 percent in a three-year span and then drops 50 percent the next year, you have made no money over a four-year period. It is important to evaluate the performance of your mutual fund over a time frame that includes a down stock market period. Look at how the fund did from 2000 to 2002: The average stock mutual fund lost approximately 40 percent in this period, and it still may not have returned to its 2000 value.

What you want to look for is a fund that did not go down in 2000-2002 — or at worst, lost only a few percentage points — and then moved upward from 2003 to 2007.

Looking at return statistics will not help much. These statistics typically cover one-, three-, five- and 10-year periods with average annual returns for that time. Annual returns vary wildly depending on the start and end dates selected. Looking at these statistics can be a good starting point, but they will not give you the information that you need.

So, how do you find a consistent fund? Find out the ticker symbol for the fund you are interested in and look it up on a Web site that will give you charts, such as Yahoo Finance. Get a 10-year fund value chart, and find a fund in which the value has gone up from the beginning of each year to the end of each year, with special attention paid to the 2000-2002 period.

Check out the fund chart before you buy. If the fund has done well in both up and down stock market periods, it is probably a sound investment choice.

Once you have selected a fund, get into a periodic investment plan in which the fund will debit your checking account monthly. If you begin this type of investment plan, most funds will allow you to start the program with a smaller initial investment.

Low fees

There is seldom a good reason for buying a fund with a commission — there are just too many good no-load funds out there to pay 4.5 percent of your initial investment in commission. Funds with upfront commissions are called A Funds.

Also watch out for 12b-1 fees, which are paid yearly to a broker. They can be more than 1 percent per year in some cases and will affect your overall return. This type of fee is found in B Funds. These funds also charge a large fee if you sell the fund within a specific period.

Try to stick with no-load funds if you can. Look at the fund Web site to get an idea of the annual fees. There is also a management fee for the fund manager and expenses to maintain the fund. Vanguard and T. Rowe Price are mutual fund families that have no-load funds with low annual fees.

Management experience

If the fund manager has been with the fund for a short time, all of those nice returns were made by the previous manager. The new manager may continue the good performance of the fund, or he may not. Try to find a fund in which the manager has been with the fund for at least seven years.

As you add to your mutual fund portfolio, you can branch out from a plain stock fund to international funds, small company funds, natural resources funds and others. But in the beginning, select a large-cap, value-oriented fund with a good long-term performance chart. Stay away from the fund of the month — go for consistency, low fees and a fund manager that has been with the fund for a long time.

Barbara Pietrowski is a licensed certified public accountant, certified financial planner and personal financial specialist. Her practice includes tax preparation, fee-only financial planning and investment management. E-mail her at barbarapietrowski@yahoo.com.