Follow these basics when you consider buying shares of mutual funds. By Kathy Kristof, Contributing Editor and Elizabeth Leary, Contributing Editor October 11, 2012 1. Buy on a Schedule Do you invest in a 401(k) plan each month? Then, even if you’ve never heard the term dollar-cost averaging, you’re using this smart strategy to make yourself rich. It’s especially well-suited for funds.SEE ALSO: Our Special Report on How to Be a Better Investor When you dollar-cost average, you invest a set amount of money on a regular basis, regardless of whether prices are up or down. This approach forces you to buy more of a security when it’s cheap. How so? If you’re investing $1,000 a month, in months when prices have fallen you’ll buy more shares of a fund or a stock. When a particular security rises in price, the same $1,000 buys fewer shares. Over time, your costs average out (the logic behind the term) but you get additional shares when prices have fallen. Investing regularly has important psychological benefits. When stock prices in particular are down—that is, when stocks are on sale—the air is thick with gloom and investors are often reluctant to buy, sale or no sale. And if you use an averaging strategy with a lump sum, it prevents you from investing all of your money at once at what could turn out to be an inopportune moment. If you see the value of your assets plunge, you could be tempted to sell at a loss and vow never to invest again. Advertisement 2. Index to Cut Costs Not everyone loves the notion of poring over corporate balance sheets to find good investments. And thanks to index funds, you don’t need to. Index funds buy every stock or bond that’s part of a given index and hold those assets indefinitely. Because an index fund doesn’t have to pay managers and analysts to study securities, the funds are cheap. The typical domestic index fund charges just 0.71% of assets in fees each year (and some charge less than 0.1%), compared with 1.41% for the average actively managed U.S. stock fund, according to Morningstar. And because the funds do little buying and selling, trading costs are low, too. Primarily because of their expense advantage, the performance of index funds is competitive with the best actively managed mutual funds. In fact, over the long haul, index funds beat most comparable actively run funds, although managed funds prevail from time to time. Advertisement You can find index funds for nearly every category of stock and bond. You’ll find index funds in both the mutual fund format and among exchange-traded funds. Just pick the index you want to mirror and buy the cheapest fund that copies that benchmark. To be sure, a few actively managed funds consistently outperform the rest. The Kiplinger 25 includes actively managed funds that we think are good enough to overcome their expense disadvantage and outpace their index rivals over the long term. But if you don’t want to monitor managers and prefer to spend a minimal amount of time selecting funds, then you’ll love index funds. 3. Pick Your Target If you crave simplicity, you’ll love target-date funds. Used primarily for retirement accounts, target funds divvy up your assets among stocks, bonds, cash and, sometimes, commodities based solely on the date that you’re likely to need your money. Because you probably have more than one goal, you shouldn’t consider a target fund to be a one-fund answer to all of your investment needs. Your portfolio should also include a cash account for your emergency money, and maybe a 529 plan for college savings. If you have other near-term goals, such as buying a house or a car, you’ll need to set aside money in appropriate investments for those goals, too. But for retirement savings, a target fund can be a simple, set-it-and-forget-it option. Advertisement Where should you go for target funds? We like the offerings of all three of the nation’s biggest no-load fund companies—Fidelity, T. Rowe Price and Vanguard. But each approaches asset allocation somewhat differently. Price is the most aggressive, holding roughly 55% of assets in stocks at the target date. The reason: Price managers think the biggest risk to investors isn’t market volatility but rather the chance that you might run out of money before you run out of breath. Price believes that growth investments—namely, stocks—are more likely than income investments to beat the rate of inflation over time, so these funds remain relatively stock-heavy—about 30% to 40% of the portfolio—throughout retirement. Vanguard and Fidelity both have about half of their target funds’ assets in stocks at retirement, but both shift you into bond-heavy income funds after a set number of years post-retirement—seven in the case of Vanguard, 15 in the case of Fidelity. The right mix for you will depend on your investment style. If you’re conservative, pick Vanguard; if you’re aggressive, choose Price; if you’re in the middle, go with Fidelity. Kiplinger's Investing for Income will help you maximize your cash yield under any economic conditions. Subscribe now!