How to Evaluate a Mutual Fund!

How to Evaluate a Mutual Fund!

As mentioned in my last newsletter, when determining your asset allocations, you should know your risk tolerance and what the time horizon is on the money. You should also consult with a financial advisor when determining your asset allocation. This will determine the kind of mutual funds you should put in your portfolio (i.e. Large Cap Value, Small Cap, High Income, etc.).  You can also find information on some general asset allocations online in relation to your timeline. Ideally, an expert should help you with this entire process. However, a lot of people (especially in relation to a 401k) seem to be on their own.  If you are in this situation, here are some tips to determine which funds you should put your money in:

1.  Take a look at the manager:

It is easy to read a bio on a manager.  All you have to do is look the fund up on Google Finance. If Google Finance does not have enough information on the manager, look the manager up on Morningstar (  There should be a paragraph about the manager’s background and how long the manager has been managing the fund. Click here and take a look at the Bruce R. Berkowitz managed Fairholm Mutual Fund under the ticker FAIRX on Morningstar:

Berkowitz, in my opinion, is a great value fund manager, and it shows in his blurb. As you can see he has been managing the fund for over 10 years. He is the president of his financial advisory firm.  Bruce has been managing the Fund since 1999, take a look at his performance of the past 10 years.  He has beat the S&P 500 every year except 2008. This kind of information will help you familiarize yourself with the fund and the manager. If there is no manager, make sure the fund is managed by a reputable firm and that the Fund is a specific index, such as an Energy mutual fund or a fixed income.

2. Take a look at the fees:

Mutual fund fees are sometimes a little tricky to find. I usually look under Morningstar fund expense. These fees show you how much of your money is going to pay the manager. There are a bunch of different kinds of fees.

•             Load fees, or initial fees, aka purchase fees. This fee is charged when you buy the fund.

•             Deferred fees are fees that are incurred when you sell a fund.

•             Management fees are fees charged on an annual basis, like a traditional management fee.

To return to our example, let’s look at Berkowitz’s mutual fund expense page:

As you can see, Berkowitz does not charge a load fee and the deferred fee is waived after you have owned the fund for 60 days.  The Management fee is 1%, which is pretty standard.

3. Take a look at the top 5 holdings:

This is really important, particularly if you are investing in mutual funds for your 401k. While picking your funds, take a look at the top five holdings. The point of a mutual fund is to get diversification. If you hold a bunch of mutual funds with the same Top 5 holdings, you inadvertently become less diversified, because you are holding the same stocks in many different funds. Here is Berkowitz’s mutual fund again:

Here, you can view the holdings of the mutual funds and what percentage is in each fund. Make sure that you do not have another mutual fund in your portfolio with the same holdings.

4. Look at the ratings and read about the fund:

Morningstar has a rating for all of their funds and a performance analysis if you are interested in reading it. Take a look at the Morningstar rating. It should be between 3-5. If it has a lower rating and you still like the fund, read the performance analysis. See why the analyst does not like the fund.

However, if you are sorting through a lot of mutual funds (say, for your 401k) you should weed the different funds out first by using the Morningstar ratings, and the fees. Then when you find funds with good ratings and low fees, take a look at the performance analysis and the manager. From there make sure the funds are well diversified by using the top 5 holdings.

You can also hire someone to do this for you! Most Financial Advisors will do this work for an hourly fee, but if you are a DIY kind of person, these are some of the steps you could take to help you weed through the funds available to you. Remember the first and most important step for your portfolio is creating an asset allocation before researching your mutual fund options.

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