How to Choose the Right Mutual Funds

If you’re ready to start building wealth for retirement, you have more options today than ever before—but not all of them are good. On the one hand, you have risky get-rich-quick schemes that promise dazzling returns only to fizzle faster than you can say “Enron” or “Dogecoin.” On the other hand, you have so-called safe investments like bonds and precious metals, but those barely keep up with inflation.

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There is a better way to invest for the future, and it can help you balance investment risk with growth potential: mutual funds. As of 2024, 74 million households had $28.5 trillion invested in mutual funds in the United States alone—more than the rest of the world put together.¹

Sounds like a great option for investment, right? It is, but there are thousands to choose from. Do you know how to choose mutual funds that are a good fit for your retirement portfolio?

What Are the Benefits of Mutual Funds?

Let’s start by reviewing the basics. What exactly is a mutual fund? It’s an investment that allows investors—like you—to pool their money together to invest in something as a group. It’s like pitching in for pizza night with your friends: Everyone pays a little and gets to enjoy a slice or two of the pie.

With a growth stock mutual fund, you’re investing in a fund that contains stocks from dozens or even hundreds of companies. That not only gives you built-in diversification but also lowers your investment risk in the process. That’s way better than betting your nest egg on single stocks (trust us, you don’twant to end up with a bunch of worthless shares in Blockbuster . . . and nothing else). 

Mutual funds contain stocks from multiple companies whose values rise and fall, but most funds are actively managed to protect your investments. Over time, the mutual fund’s value will increase if it’s well managed. As its value increases, so does your wealth.

Here are the main benefits of investing in mutual funds:

• You get active, professional fund management.
• You can reinvest dividends (the money you earn through investing can make more money).
• It often costs less to invest in mutual funds than in most other investments.
• Mutual funds give you built-in diversification and lower your investment risk.

With benefits like those, investing this way is an obvious choice. The challenging part is how to choose mutual funds to invest in. But we happen to know a thing or two about that, so let’s do what we do best and help you win with money!

How Do You Choose the Right Mutual Funds?

Choosing the right mutual funds is like setting boundaries in relationships: You have to know a few details about them before you can decide who’s a good investment—for you—and who isn’t. To find which mutual funds are a good fit, take a look at the fund’s prospectus or online profile.

As you do your research about which mutual funds are right for you, there are six basic things you need to know:

1. Objective

This is a summary of the fund’s goals and how the management team plans to achieve them. The good news is, the name of the fund often gives you a good idea of what those goals are.

You should aim to spread your investments evenly (25% each) across these four types of mutual funds:

• Growth and income funds: This is how you create a stable foundation for your portfolio. You won’t usually see extreme losses or gains with these funds because when the market shifts, these investments respond more predictably. These funds are made up of big, boring American companies that have been around forever (and are often household names). Typically “recession-proof,” they offer goods and services that people buy no matter what the economy does. Look for funds with a history of consistent growth and dividend payments. These are also called large-cap or blue chip funds.
• Growth funds: Here, you’ll find medium to large American companies that are actively growing. These funds are more likely to ebb and flow with the economy than those made up of large-cap companies, and they usually offer something that’s in high demand. These are also known as mid-cap or equity funds. 
• Aggressive growth funds: This is the wild child in your portfolio. When these funds are up, they’re up . . . but when they’re down, they're down. While they’re usually made up of small or start-up companies, size isn’t the only factor in a fund like this. If a large company decides to step into an up-and-coming market, their stock might end up in an aggressive growth fund. Geography can play a role too. 
• International funds: These are a great addition to your portfolio because they help spread risk beyond domestic soil by allowing you to invest in big, non-U.S. companies. These are sometimes called foreign or overseas funds. But be careful not to confuse international funds with world or global funds, which contain both U.S. and foreign stocks together.

By balancing your investing dollars between these four mutual fund types, you’ll create the stable and diverse portfolio you need for long-term wealth building.

Ramsey Solutions is a paid, non-client promoter of participating pros. 

2. Fund Manager Experience

Okay, we’ve mentioned fund managers a couple times now. So, what exactly do they do?

The short answer is, they do a lot. Unlike most other investments, mutual funds come with a whole team of pros who invest your contributions for you and:

• Set the fund’s strategy
• Do in-depth market research
• Monitor the fund’s performance
• Adjust investments as needed

Some other investments—like index funds—are passively managed, with a set-it-and-forget-it approach. Index funds increase in value as long as the index they're tracking goes up. But the moment it loses value, so does your investment.

But mutual funds are actively managed to outperform that index. They have an experienced manager calling the shots so that, when the market drops, smart adjustments can be made to protect and grow your retirement investments.

While a fund manager with at least 5–10 years of experience under their belt is ideal, keep in mind that a lot of fund managers mentor their successors for years before they shove them out of the nest. So don’t completely write off a fund just because it has a new manager. If the fund has consistently performed well, you might discover after a little research that it’s still a good option.

3. Sectors

Sectors are the types of businesses a mutual fund is invested in. Examples? Think technology, health care or aerospace. A fund that’s invested in companies across a wide range of sectors is well diversified. That’s what you’re looking for—because you don’t want your future to depend on companies from only one industry (in case that industry collapses). The market will always have its share of bulls and bears (booms and busts) so you’re better off diversifying your investments across multiple sectors.

4. Performance (Rate of Return)

When investing in mutual funds, you want to choose funds with a long history of strong returns on investment (ROI). Focus on long-term returns—10 years or more.

Remember, once you’re on Baby Step 4, you can invest 15% of your gross household income for retirement. That means if your annual income is $100,000, you’ll invest about $1,250 a month. Here’s what you can expect if you invest from age 35–65 in mutual funds the way we recommend:

• $1,250 per month from age 35–65 at 10% return is $2.8 million.
• $1,250 per month from age 35–65 at 11% return is $3.5 million.
• $1,250 per month from age 35–65 at 12% return is $4.4 million.²

That’s a lot of growth, but these numbers assume you’ll earn no more than $100,000 a year from age 35–65. This means that—even if you never get a raise, switch to a higher-paying job, or receive an employer match throughout your career—you can still retire as a millionaire.

5. Cost

Even if a mutual fund gets great returns, costly investment fees can really cut into your growth. Don’t get us wrong—how the fund performs is way more important. But do your homework. You don’t want to get ripped off by unreasonable fees, especially if a little research can help you avoid them.

One way to do that research is to take a look at a fund’s expense ratio. This reflects the fees that help cover the costs of managing the fund. Any fund with an expense ratio higher than 1% is too expensive.

When you invest in mutual funds with help from an investment pro, they’re usually paid through a load(commission-only advisors), an advisor fee (fee-only advisors) or a combination of both (fee-based advisors). Those expenses pay your investment pro for their time and expertise as they help you manage your investments—and professional advice is worth paying for.

But be careful with no-load mutual funds. These shares are purchased directly from a company instead of a fund manager or broker. The company doesn’t charge a commission, which can seem attractive at first, but they often pump up their bottom line with maintenance fees and other hidden costs. If you’re not careful, this could cost you a lot over time.

6. Turnover Ratio

Turnover refers to how often investments are bought and sold within a fund. A turnover ratio of 10% or less is low and shows that the management team has confidence in its investments. A high turnover ratio is a red flag: Either the management team isn’t very confident in their investment choices or they’re trying to time the market for bigger returns, which is just plain dumb (because it’s not possible). A high turnover ratio can also mean more taxes, so be careful. You’re trying to put money into your pocket, not Uncle Sam’s.

Remember to Be Patient—Not Impulsive

Patience is the key to a successful portfolio of good growth stock mutual funds. There’s no reason to panic if the market is down, especially if you’re young and just starting out. The market has recovered from its lows 100% of the time, so put your phone down, turn off the news, and take a deep breath.

Mutual funds aren’t lottery tickets. You’re investing for retirement, so fear doesn’t get a vote—and you know the tortoise beats the hare every time.

This article provides general guidelines about investing topics. Your situation may be unique. To discuss a plan for your situation, connect with a SmartVestor Pro. Ramsey Solutions is a paid, non-client promoter of participating Pros.