Five Steps to Picking the Right Fund

New Mexico-based financial adviser Robert Rikoon says the fastest way to do that is to compare the fund against a similar exchange-traded fund, or ETF. For example, it makes little sense to compare a real estate fund against the S&P 500 index. But measuring the fund's performance against the iShares Cohen & Steers Realty Majors Index Fund(ICF - Cramer's Take - Stockpickr) will enable you to see if the manager is beating his bogey.

Risk is another important item. A fund manager might have thoroughly beaten the index last year, but you need to know how much risk he took in doing it. Looking at a fund's beta is one way to do that. The higher a fund's beta, the more volatile it is relative to its benchmark. A beta that is greater than 1.0 means that the fund is more volatile than the benchmark index.

Daniel Buczak of Pacific Advisory Services says he looks for managers who beat their respective indices with the lowest beta possible. His favorite fund families along those lines are American Funds and First Eagle.

3. Keep an Eye on Costs

If a fund's risk-adjusted performance is good, then costs might not be too big a concern, especially since most fund-tracking companies measure a fund's performance after fees. But because nobody likes to pay too much for anything, most advisers suggest no-load funds with low expense ratios. And no matter what you hear, there are plenty of good ones out there.

Morningstar says its average stock fund expense ratio is about 1.5%. However, some fund families -- Vanguard stands out -- offer great performance at an annual cost of 1% or lower.

Of course, investors need to remember that small-cap funds and specialty funds that involve heavier research often have higher expense ratios.

Investors should also look for the lowest possible 12b-1 fees, which are marketing fees that have been widely criticized. Schultz steers clients toward funds with a 12b-1 fee of 0.25% of assets or less.

4. Turnover Can Hurt

In 2001, many investors suffered a double whammy. They lost money in their funds as the market plummeted, and were stuck with large tax bills due to their fund's tax inefficiency. The lesson is that even if your fund does not make money over the course of the year, you may still have to pay taxes on any gains your fund made when it sold existing holdings to combat market volatility.