They're simply investment companies that pool your money with others', investing it in stocks, bonds and other assets.
Diversification pays off, too, both in return and risk reduction.
To choose the right funds, start by looking at your own goals. Perhaps the most critical is how long you plan to invest. Since time offsets volatility, the longer the time frame the more aggressive you can afford to be. Another consideration is how you plan to use your money, such as a house down payment or a longer term objective like retirement. The closer the goal, the more conservative you should be.