Last week , I gave you the do's that don't anymore. Today, here are the do's that are still musts for mutual fund investors. Investor, know thyself Your first question is not: What's this fund going to do? But: What do I need it to do? And that means you gotta ask: When do I need the money? How much do I need? How strong is my stomach? Even if you're the Einstein of fund pickers, you won't get anywhere without knowing where you need to go. Boring as it sounds, you have to understand what purpose an investment serves in your portfolio. Do you need to cash out in a year for a down payment on a house? Or is this for 10 years down the line when your kid is off to college? Good funds don't all have to be alike -- they can work hard in different ways and over different territory. Think of a grid that has style along one axis (value to growth) and size along the other (large- to small-cap). Morningstar divides it into neat boxes. (Click here for an example.) I prefer a more fluid approach, as few funds are so easily labeled. I also place more emphasis on size (large-cap vs. small-cap, for example) rather than style. That's because some of the best managers adapt their styles to varying market environments and are not easily labeled by the style police. Where you concentrate your money depends on the basics particular to you, such as savings goals, time horizon, risk tolerance and view of the future. But remember, that if you're going to keep your money in one place for a while (more than one, two, even three years, believe it or not), growth doesn't necessarily mean more risk -- just as stocks don't necessarily mean more risk than bonds in the long term. If you really believe in the revolution of technology, a tech fund with a good manager may go up and down a bit in the interim but should deliver in the long term. Of course, the wannabe-a-millionaire question is: How do you know what's good? Performance, performance, performance Yep, bottom line, you want to know how a fund has performed, even if that's no guarantee about the future. Try to take both a short- and a long-term look. You can't just check the annualized three- or five-year number. Look at how the fund performed each year. A fund can have a rip-roaring couple of months, then ride on its reputation. (Always check, too, whether the current manager is responsible for those numbers. If a new guy is on board, you'll want to research his background and find out why the old one jumped ship.) The key here is to remember to keep all this in context. What does a 25% return mean if all the fund's rivals churned out just 10% a year? Or maybe the category was a really hot one and that gain ranked in the bottom quarter of all the fund's rivals. Figure out how a fund stacks up against those that practice a similar style. Of course, that's easier said than done. You can't define "peers" as funds that have the same investment objective, as defined in the prospectus. Those classifications are so broad -- capital appreciation, for example -- as to be almost meaningless. Morningstar provides a more detailed system, and here on TSC, you can find updated performance numbers for a wide variety of time periods. Know what you're paying There is little more confusing than the price tag of a mutual fund. In the real world, competition means lower costs to consumers. Not here. While the number of new funds is exploding, fees are up, too. Links between pay and performance? Few and far between. Instead, the norm is that the worse you perform, the more you charge. And what about a simple sticker that tells you exactly what the product costs? No way. With a jargon-packed alphabet soup of share classes, it's hard to know exactly what you'll wind up paying. And even if you avoid loads and obscene expense ratios, you still can get hit with a charge after you sell. Alice, welcome to Wonderland. Here are the basics: Check for the most overt of charges: A load, or the fee paid to an investment broker or adviser when you invest in a fund, is essentially a sales commission. If you set aside $10,000 to invest in a fund with a 4.5% load, $450 gets skimmed right off the top; only the remaining $9,550 goes to work for you. The type of loads range quite literally from A to Z. A shares generally carry a front-end load, paid right when you buy. B shares have a back-end load, meaning you pay when you sell, based on how long you held the fund. B shares also have higher annual expenses than A shares. C shares often have higher marketing fees (known as 12b-1s), but no front- or back-end charges. So why not skip funds that have a load? Do-it-yourselfers can find plenty of great funds that don't hit you with this granddaddy of mutual fund fees, but depending on your skill and expertise, you may need an adviser or broker to help you choose a fund. The trouble is that most mutual fund consumers assume that no load equals no fee. We pat ourselves on the back for saving money and blithely ignore what can be an even greater drag on our investments: management and other fees. A hefty expense ratio can mean a lot more damage to the long-term investor than an upfront load. All funds have these expense ratios. They're made up of a management fee (which pays for the basics of business: manager salaries, research, overhead), marketing and distribution fees and administrative fees. These can range from less than 0.5% annually for cheap index funds to more than 3% a year. The bottom line is that you'll wind up with a lot less in your pocket at the end of a decade with a fund packing the higher ratio. (That's more than $1,600 less on a $10,000 investment by going with a fund that charges 2% a year rather than one that charges 0.5% a year, all other things being equal.) The average annual expense ratio for equity funds is around 1.4% -- that can be a useful guide. Oh, and one other thing: If you have a relatively new fund, its low expense ratio may not be real. Fund companies often absorb some of a fund's expenses in the beginning, Like the teaser rate on a credit card, you'll often find a higher rate phased in later -- right when you're not looking! It wasn't supposed to work this way. We were supposed to spend less time (and money) on mutual fund expenses. The logic is that as assets grow, you can spread the cost of running a portfolio over a larger asset base. But new money floods the industry -- and our fees just keep going up, too. As long as the bull keeps running, I doubt we'll see a reversal in this trend. And as long as Wall Street looks like Pamplona, chances are investors aren't going to care much. Still, costs are the only predictable aspect of a mutual fund. You definitely can't guarantee that your fund will keep racking up the same returns, keep its management or maintain a set level of volatility. But you can know with a reasonable degree of certainty what you'll pay. Live with risk The experts have a whole bunch of tools -- some sophisticated, others rather crude -- to quantify risk: beta, standard deviation, alpha, Sharpe ratio. (Click here for a guide to each of these terms.) Use these, but also use your common sense. Check out a fund's track record during specific down times -- how did it handle the second quarter of 1999 or the fourth quarter of 1998, for example? Once you have those charts and graphs in front of you, remember that the point of investing is not to avoid risk, but rather to understand the risk you're taking on. Sorry, but it does matter Size, that is. Bloated asset levels can definitely be a drag on performance, so I always want to know how big my fund is and how fast it's growing. (Check out the "Net Asset" line item in the prospectus for both.) This is especially important if you're looking at a small- or mid-cap fund. ( FMAGX) Fidelity Magellan's recent performance aside, few managers can dance with a hippo. A bigger fund just can't be as nimble getting into and out of stocks without having an impact on price. Is the pilot on board? That is, will he or she go down if the plane does? This is my favorite test: Is a manager's money where his mouth is? Unfortunately, it's a standard you don't hear about much, and it's also really tough to ascertain. I want to know whether my manager trades in his own account and if he has his personal money at risk in the fund. It makes me feel a lot more comfortable if I know that he will suffer, too, if the fund takes a tumble. And while many managers do trade on their own, I prefer it when all of a manager's market energy is focused solely right where it should be -- on my fund. Next week: The do's and don'ts of ditching a fund.