In choosing funds, the expense ratio—not performance—is the first number to consider. By Steven Goldberg, Contributing Columnist September 16, 2014 With many things, you really do get what you pay for. But not when it comes to investing. Low costs, it turns out, are the single best predictor of success for mutual funds.Most fund sponsors would rather you consider everything but their funds’ expense ratios. They tout past performance, the brilliance of their fund managers, their experience and a host of other qualities. SEE ALSO: 25 Stock Picks for an Aging Bull Market But low costs “are the steadiest predictors” that funds will outperform their peers in the future, says Russ Kinnel, director of fund research at Morningstar. You’ll typically find that index funds—unmanaged products that simply seek to emulate a benchmark—charge the least. Even so, you can find plenty of index funds that bear high fees, and they, too, tend to be poor performers. It’s not about actively managed funds as opposed to passively run funds, Kinnel says. “Low costs are what matter.” Advertisement To test this notion, I asked Morningstar to divide all diversified stock and bond funds into two groups: relatively low-cost funds (those that charge 0.75% annually or less) and high-cost funds (those that charge more than 0.75%). I also had Morningstar separate funds into broad groups: domestic stock, foreign stock, taxable bond and tax-free bond funds. Then I looked at their performance over different time periods, ranging from the 12 months to 15 years through August 2014. Over every period and in every category, the average low-cost fund ranked better than the average high-cost fund. For instance, the average low-cost domestic stock fund ranked in the top 39% of its peers over the 10-year period I examined, while the average high-cost fund finished in the top 53% (or in the bottom 47%, if you prefer to look at it that way). And low-cost funds fared better despite the existence of survivorship bias in the study. Survivorship bias skews the results of performance studies because of the tendency of fund sponsors to close down bad funds, many of which charge high fees. Morningstar’s Kinnel did a similar study that included funds that went out of business, and he also found superior results for low-cost funds. For instance, in 2008 the 20% of U.S. stock funds with the lowest expense ratios had a 56% chance of surviving and beating their category average over the next five years. As for the 20% of U.S. stock funds with the highest fees, only 34% cleared the same hurdle. Of course, costs aren’t everything. Risk-adjusted returns (which take into account a fund’s volatility), a fund firm’s corporate culture, the frequency of a fund’s trading and other factors are also important. Below are my five favorite low-cost funds—four actively managed products and one index fund. Advertisement Dodge & Cox Stock (DODGX) returned an annualized 8.8% over the past 15 years, beating Standard & Poor’s 500-stock index by an average of 4.3 percentage points per year (]unless otherwise noted, results in this article are through September 12). Moreover, Dodge & Cox Stock landed in the top 2% of funds that hunt for large, undervalued companies. Annual expenses are 0.52%, compared with 1.25% for the average diversified U.S. stock fund. Dodge & Cox Stock is a member of the Kiplinger 25. Over the years, Fidelity has developed a first-class lineup of bond funds. My favorite is Fidelity Total Bond (FTBFX). It charges 0.45% annually, compared with 1.00% for the average taxable bond fund, and it yields 2.5%. Over the past five years, it returned an annualized 5.7%—an average of 1.5 percentage points per year better than Barclays Aggregate U.S. Bond index. The average credit quality of the fund’s bonds is triple-B. Based on the fund’s average duration (a measure of interest-rate sensitivity), figure that its price would fall by nearly 5% if interest rates were to rise by one percentage point. Total Bond is also a member of the Kiplinger 25. Primecap Odyssey Stock (POSKX) is the most sedate of the funds offered by Primecap, a terrific Los Angeles-based shop that specializes in growth stocks. Over the past five years, the fund has trailed the S&P 500 by an average of 0.2 percentage point per year. But it has been 7% less volatile than the index, and the fund charges just 0.63% annually. The fund is a younger sibling of Vanguard Primecap (VPMCX), which has beaten the S&P index by an average of 2.6 percentage points per year over the past 10 years but is currently closed to new investors. Vanguard Dividend Growth (VDIGX) wasn’t built for a stock market that never seems to stumble. But Dividend Growth, another member of the Kip 25, is an ideal fund for a bull market that’s getting long in the tooth. The fund, which holds mostly blue-chip stocks with impeccable records of hiking dividends, has lagged the S&P 500 by an average of 0.8 percentage point per year over the past five years. However, it has been 17% less volatile than the S&P index, and it lost only 42.3% during the 2007-09 bear market, compared with a 55.3% plunge for the index. Expenses are just 0.31% per year. A list of low-cost funds would not be complete without an index fund, so I also recommend Vanguard Total Stock Market Index Admiral (VTSAX). It charges a mere 0.05% annually for essentially the entire U.S. stock market. The fund tracks the CRSP U.S. Total Stock Market index, which consists of more than 3,600 stocks. With 27% of its assets in stocks of small and midsize companies, Total Stock has far more exposure to smaller companies than funds that track the S&P 500 index. Because of the extra emphasis on small companies, Total Stock bested the S&P 500 by an average of 0.6 percentage point per year over the past 10 years. VTI is the symbol for an identical exchange-traded version of Total Stock. Steven T. Goldberg is an investment adviser in the Washington, D.C. area.