COMMENT
How To Choose A Fund

By David Kuo (TMFDragon)
December 14, 2004

Investment funds allow you to invest in wide range of investments, which may otherwise be out of your reach. Their main attraction is diversification, and in the UK there are around 2,000 funds to pick from. You can invest in funds that specialise in gilts and bonds to those that only invest in ethical businesses. There is even talk that one day we could see a British equivalent of the American Vice Fund!

With so many different funds on offer, picking a suitable fund can be quite a minefield. Not surprisingly, opinions differ over how you should go about selecting a fund that is right for you.

In my view, if you want to avoid disappointment later on then it is vital to set your investing objectives first. Once you have done that you can start to whittle down the choices to those funds that meet your aims. For example, conservative funds, which grow slowly, tend to have heavy cash and bond holdings. Meanwhile, growth funds, which can be more volatile, will be biased towards shares.

M&G High Interest Fund, for instance, has returned 7.4% over the last three years, compared to its Small Company Growth Fund that has appreciated 36% in the same period. Whilst money-market funds are often said to be the safest type of managed funds, their returns are so low that they hardly beat inflation over time.  

Next you should look at areas that interest you. For instance, under the growth fund umbrella, you can choose from a vast range that includes global growth, growth in the Asian Pacific region or growth in Japanese smaller companies. There are also funds that focus on US growth, growth in Latin America or growth in the technology and telecommunications sector. (I find the IMA website particularly useful for screening funds by sector.)

Since global economies tend to expand and contract in cycles that offset each other, it can be advantageous to invest in foreign shares. Furthermore, a fund with a good manager can be the best way to go especially where research in emerging markets is scarce. However, it is worth mentioning that currency fluctuations can have a significant impact on returns.  

Charges should not be overlooked when choosing a fund too. Remember that entry and exit fees will inevitably put a dent in your overall return. Consequently, it pays to invest in funds that have low charges. Additionally, ongoing fees should not be ignored. These fees pay for the services of your fund manager.

The final step is one that stirs up much controversy because it concerns examining past performance. Whilst past performance is not necessarily a guide to the future, it can provide useful pointers as to how a fund is performing relative to its peers. Comdirect's fund finder site is quite useful when comparing the performance of different funds.

As a final thought, it can be instructive to look at the past performance of your preferred fund against the market also. In my experience, rarely do managed funds beat the market, which suggests to me that an index tracker is often a simpler, cheaper and more attractive option.