4 Factors to Look for in a Mutual Fund

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Main takeaways

• Fees can significantly eat into long-term returns, and most high-cost funds struggle to justify their price.

• A fund’s consistency over many years is more meaningful than one-off strong returns.

• Experienced fund managers with skin in the game are generally favorable to newer ones with fewer incentives tied to the fund’s performance.

• Make sure a fund’s holdings and strategy fit your age, risk tolerance and target asset mix.

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Perhaps you started a new job and you’re looking at a menu of investment choices available through your new employer. Or maybe you just opened a brokerage account and you suddenly have to figure out how to split up your portfolio. 

Choosing between mutual funds may seem like one of the more humdrum financial decisions you can make, but it happens to be incredibly consequential in the long run. For example, a $100,000 investment in a fund that averages an 8-percent return will leave you with $470,672 after 20 years. But that same dollar amount, when put into a fund that garners 9 percent average returns, ends up being worth $565,557 after that same span.

So what should you look for when comparing funds that look a lot alike at first glance? Here are four of the factors that can help you separate the better offerings from the rest of the pack.

1. Fees

Mutual funds charge you fees every year, which can create an incredible drag on your net returns over long periods of time. That’s why the fund’s expense ratio, which is available in your retirement plan documentation—or on the brokerage firms’s website, if you’re investing outside the workplace—is one of the biggest influencers when it comes to long-term performance. 

In 2024, the average expense ratio for an actively managed stock fund was 0.64 percent, according to the Investment Company Institute. For stock-focused index funds, it was far lower: 0.05 percent. 

Theoretically, high-cost funds can make up for relatively high fees by generating returns that more than make up for their heftier fees. But the fact is, relatively few manage to do so. A case in point: You’d have to go back to 2009 to find a year when more than half of large-cap U.S. stock funds outperformed the S&P 500 benchmark. 

Do lots of funds manage to beat out the market each year? Sure. But higher fees always create a higher hurdle to outperform a humble index fund in the same category.

2. Past performance

The old investment adage is very much true: Past results don’t guarantee future results. In fact, a fund that may have crushed it last year may now be overpriced and even more likely to come down to Earth. 

However, that doesn’t mean a fund’s past returns have nothing to tell you, either. If a fund has been able to consistently outshine the relevant stock index over a 5-year period or longer, it’s probably a sign that the management team has an approach that works. Of course, all of that goes out the window if the fund doesn’t maintain consistency at the helm and a steady strategy moving forward.

3. Strong management

Funds that perform better than their peers tend to have strong leadership teams who know when it’s time to pounce on a bargain stock or unload shares that are overvalued. Often, managers with longer tenures are a positive sign, since they have experience under a variety of market conditions and provide stability when it comes to the fund’s overall approach. 

Another important sign to look for: the degree to which the fund managers invest in their own product. The more money a manager is willing to put into their own basket of securities, the more their compensation is based on the performance of the fund—and not other factors that may not be in the best interest of a regular investor. 

A visit to the investment research site Morningstar can be useful on both fronts. When you search for a specific fund, click on the “People” tab. You’ll find how long its managers have been at the helm, and the value of fund shares they’ve purchased.

4. Compatibility with your goals

When considering investments for your portfolio, make sure the funds you choose help to create an overall asset mix that’s appropriate for your age and objectives. Do you own a separate retirement account that’s skewed toward large-cap stocks? Perhaps you want to look for a fund focused on slightly smaller companies as a ballast. 

Be sure to look at the stocks or other assets that the fund actually holds, which is readily available online. Even funds that look similar at first glance can have important differences when you take a closer look. Take, for example, two index funds that target short-term bonds. Corporate bonds may represent the lion’s share of one, while government-issued notes—safer, but offering less growth potential—may pervade the other. 

The upshot

Choosing a mutual fund isn’t about chasing its past performance—it’s about finding the ingredients that tend to produce strong results going forward. Look for products with competitive fees and experienced managers who truly know their sector of the economy.