For many investors who don’t have the money or time to devote to building a diversified portfolio, a mutual fund is often the way to go. With as little as $1,000, you can buy into a fund and instantly be holding shares of hundreds of different companies while letting professional management do the maintenance work. Sounds good in theory, but there are some things to keep in mind.

    For starters, you have to consider the costs. Top mutual fund managers make millions a year, and it’s the investors paying that salary in the form of fees on the fund. I would happily pay 5% in fees on a fund that averages 25% gains every single year, but most don’t come close to that. Mutual funds often don’t do much better than the broad markets, and sometimes they perform much worse. When your fund includes hundreds of stocks, you’re not likely going to see explosive growth. Figuring in taxes as well, it’s obvious to see that all the costs associated with owning a fund are going to seriously eat away at the bottom line.

    There are certain funds out there that charge ‘load’ fees, usually front-load, meaning they charge you a certain dollar amount just to buy the thing up front. There are also back-load funds, where you are charged to sell the fund. These should be avoided for the most part, as there are plenty of quality funds that don’t charge you loads.

    Next we need to decide how we feel about our investment decisions being completely out of our control. Fund management can do whatever they please and without warning, putting investors at the mercy of their fund managers. Although these managers are supposed to be the best of the best, their performance often shows otherwise. However, no matter how the fund is performing, the fees being charged to you continue to line their already fat pockets.  

    One of the best places to get information about different funds is www.morningstar.com. Morningstar has excellent ratings and information about thousands of different mutual funds. Want to find the highest rated funds? What about the ones with the lowest fees? Want to see how a particular fund is diversified? All at morningstar. Different funds have different minimum purchases, so be sure you pay close attention to what that number is. Many are low, about $1,000, but there are a lot that require at least $5,000 or $10,000.

    You must consider the objectives of each fund carefully. For example, a Brazilian small-cap growth fund will have more growth potential, as well as more risk, than a United States large-cap fund. For now, I won’t delve much more into the different types of funds out there, but you will want to do plenty of this research before putting your money out there. One crappy thing, though, about fund research. Mutual Funds aren’t included on CAPS as of now, my favorite place for stock research, but there are other good places to get information.

    There are downsides to mutual funds, but for many people they are the best option. If you live an ultra-busy life and are stretched pretty thin as it is, you will struggle to devote enough time to research and maintain a portfolio of individual stocks. For now, your best bet is a fund. Same goes for having little for start-up funds. With only $1,200 or so to play with, it’s going to be impossible to own a balanced portfolio of stocks. A mutual fund is far better than a portfolio that is poorly managed or not diversified.