A mutual fund is an investment management company that pools the money of investors and hires an investment advisor to invest that money in an attempt to achieve a financial objective. Mutual funds can invest in stocks, bonds, money markets, or other securities, and may be designed for current income, capital appreciation, or capital preservation. A mutual fund must make its purpose clear, and actively pursue that purpose. For instance, a large-cap mutual fund must invest 80% of its assets in large-cap stocks.

When an investor purchases or sells a mutual fund, he or she does not pay the fund's price at the time of the order. Instead, the price paid is usually calculated at the end of the trading day. To calculate its net asset value, a mutual fund will add up the value of all its assets and divide that figure by the total number of shares of the fund.

There are several items to evaluate when identifying an appropriate mutual fund. First, an investor should seek not only top performing funds, but should look for funds that fit a predetermined investment strategy. An investor looking for growth would not benefit from purchasing even the top performing capital preservation fund. Further, it wouldn't be beneficial for an investor to own three top performing international funds only to have a portfolio that isn't adequately diversified.

Once an investor identifies an appropriate type of mutual fund, long-term performance should be closely examined. Many funds have superior performance over one or three year periods. Look for funds that have superior performance over five and ten year periods. Be sure to create an "apples to apples" comparison between funds. For example, compare the performance of a small cap value fund only to that of other small cap value funds. Ideally, look for a fund in the top 25 percent of its category over a three, five, and ten year period.

When shopping for a mutual fund, an investor should also closely examine a fund's expenses. First, NEVER pay a sales charge (also called a load) to purchase a fund. Also, pay particular attention to something called the expense ratio, which is the sum of a fund's operating expenses, management fees, and hidden fees (called 12b-1 fees) as a percentage of fund assets. The average expense ratio of a US stock fund is around 1.3 percent. You should be able to identify quality funds with an expense ratio of less than 1%.

Lastly, be sure to examine the manager's tenure, which is how long he or she has had their job. You don't want a new money manager gaining experience with your money. Additionally, a new fund manager had nothing to do with the long term performance of the fund, rendering those numbers irrelevant. If possible, look for a fund manager with at least 10 years of experience.

Identifying superior mutual funds is an area where working with an independent fee only financial planner is crucial. Fee only financial advisors (ideally NAPFA members) have a fiduciary obligation to do what is best for their clients. Thus, they will focus on finding top investment options for their clients, rather than on the products that will pay the financial advisor the largest commission.