In this series, we've discussed different ways you can take an active role in investing your money. One thing we've learned is that there's more than meets the eye when picking an investment: Investing your money can quickly become a time consuming, all-encompassing obsession. A strategy used by many investors for making their life a little easier is letting an expert take on the day-to-day obligations of picking their investments by investing in a mutual fund.

The theory behind a mutual fund is quite simple. A mutual fund is a big pool of money, contributed by a whole bunch of investors, and invested by one individual or group whose entire job it is to invest that money. The theory is that any one individual only has a small amount of money, but a whole bunch of people together have enough money that they can hire a fulltime expert (or in many cases, if the fund is large enough, a whole team of experts) to invest their money for them.

That's really all there is to a mutual fund.

Picking a Fund

Even a preliminary investigation into mutual funds will tell you that there are thousands of funds out there. Why so many? Well, part of the reason is that every individual has different needs from their investments. Mutual funds try to pool people with similar needs, but don't attempt to pool the whole world together. Another part of the reason is that mutual funds are a big business, and because of that, different finance companies, banks, and the like compete for your investment dollar.

So how do you pick a fund? Although funds give you a chance to get away from the day-to-day management of your investments, picking one is not very different from picking a stock or a bond.

1. Picking your investment strategy

Like any other investment choice, the first thing you should look at is what you want out of your investment. Do you want a low-risk, long-term investment to ensure you'll have a healthy amount of money at retirement? Are you looking for high-risk investments that might yield huge results? Are you planning to invest for a short amount of time or 20 years? Are you going to need your investment to yield you some income in the form of a dividend? These questions are key. No matter what your investment strategy, you'll probably be able to find a mutual fund that caters to your needs, but, like any other investment, unless you figure out your needs first, you'll be inundated with choices, and it'll be very hard to find the right mutual fund investment.

2. Picking your type of fund

There are two basic types of fund: Open, and closed. The difference, at its most basic, is as follows: An open fund will allow anyone to invest in it at any time. The amount of money invested by the fund changes, as people buy or sell more of the fund. For example, this week, it could be a million-dollar fund, 20% invested in IBM and 80% invested in Compaq. Next week, if everyone cashes out of the fund, it could be a hundred-thousand-dollar fund, 20% invested in IBM and 80% invested in Compaq. It doesn't matter too much to the individual fundholder: Your money is still invested in IBM and Compaq, and the value of your individual investment hasn't changed. This week, you'll have your fund money invested in x shares of IBM and y shares of Compaq. Next week, unless you've cashed out, you'll still have your fund money invested in x shares of IBM and y shares of Compaq. The value of your investment is only affected by the value of IBM and Compaq shares.

A closed fund has a fixed amount invested, say $10 million. Investors buy in when the fund is created. Then units in the fund are traded, just like a stock. The value of your investment will be determined both by the value of the underlying investments of the mutual fund as well as by the supply and demand of the units of the fund. These funds mean there's an added complexity to investing: Your investment is only worth as much as someone else is willing to pay for it.

3. Picking your type of fee

Mutual funds are a big business. There are thousands of funds out there, run by banks, investment houses, and the like. A team of trained professionals manages each of these funds. They wouldn't be doing it if they couldn't make money at it.

So how do they make their money? Well, they charge you for their services. Most funds these days run on a "management fee"--every year, they take a certain percentage of your money, say 2%, as a fee for managing your money. But different types of fees exist. Many funds still work on a "front load" fee, where the fund charges you a certain amount in order to make your initial investment. For example, they may charge you $100 to "buy into" the fund. It's an upfront fee, usually only paid once. "Back load" fees work on the same principal: They charge you a fixed amount, or a percentage, when you decide to take your money out of the fund. Most funds also charge an annual management fee.

Being aware of all the fees that you'll be charged before you decide to invest is key--especially as a typical scientist, where the size of your investment may make a fixed front load fee seem ridiculous. Why pay $200 right away when all you're investing is $500?

A fund that has a history of making lots of money for its investors might have a high fee to reflect the high wages of the people running the fund, for example. But remember that a high fee may not always be a bad thing--that fee may be worth every penny. A basic example: A fund yielding 10% with a management fee of 2.5% will be a better investment than a fund whose investments yield its investors 5%, even if the management fee of that fund is only 1%. The point is that many people get hung up looking at the fees they have to pay, rather than seeing the big picture and looking at the investment as a whole.

4. Picking your type of portfolio

Mutual funds come in many specializations. Some focus on certain industries, for example, biotech, or energy. Others specialize on investments in only one country. Some invest in equity, while others only invest in bonds. And others are general funds, with investments in just about everything under the sun. Part of your investment choice will be picking the portfolio you want your mutual fund to have. For example, buying a biotech mutual fund will mean that the fund will be focused on biotech investments. Many times with funds like this the fund managers will have science backgrounds, or an expertise in biotech that will enable them to pick the winning companies. Another example that has gained a lot of popularity over the last few years is so-called "ethical funds." These funds limit their investments to companies that fit their ethical criteria--typically the funds won't invest in weapons manufacturers, tobacco, and the like.

Picking a portfolio is an extremely personal thing. But what a specialized fund will let you do is pick an industry or a country that you think is going to be a "winner," rather than picking a specific company. For example, if you think that the biotech industry is going to make a lot of money for its investors in the next 10 years, but you don't have the time (or knowledge) to pick the two or three companies that are going to "lead the pack," buying a biotech mutual fund will let someone else do all that research for you, while allowing you to follow your general strategy of investing in biotech.

5. Picking your fund manager

The most important part of picking your mutual fund is picking the people that are going to manage your money--the fund managers. To do this, one typically looks at that fund's yield history. The fund's net yield is the amount it has paid to investors. But historic yields, like any statistic, can be skewed: Make sure that when you are comparing them that you're comparing apples to apples--and not "pre-fee" with "post-fee," or 6-year means to 5-year medians, for example.

Historic yields can also be misleading because of general trends in the markets. Three-year averages in Internet funds will have significantly different yields if the yield was calculated in February of this year versus a yield calculated in May, given the drop in the Internet markets within that time.

Also, when looking at yields, make sure you're looking at historic yields for the fund manager, and not just for the fund: If the head manager for a fund left last week to pursue a job somewhere else (or to retire), they're not going to be managing your investment. Even though the name of the fund will be the same, the yield may differ significantly over the next few years.

Next month, we'll continue our discussion of mutual funds. We'll look at how to read a mutual fund listing, and we'll review a few places on the Net where you can learn more about this investment choice.