A method is presented for the preparation of a biocompatible ferrofluid containing dye-functionalized magnetite nanoparticles that can serve as fluorescent markers. This method entails the surface functionalization of magnetite nanoparticles using citric acid to produce a stable aqueous dispersion and the subsequent binding of fluorescent dyes to the surface of the particles. Several ferrofluid samples were prepared and characterized using Fourier transform infrared spectroscopy (FTIR), X-ray photoelectron spectroscopy (XPS), thermogravimetric analysis (TGA), BET surface area analysis, transmission electron microscopy (TEM), and SQUID magnetometry. In addition, confocal fluorescence microscopy was used to study the response of the fluorescent nanoparticles to an applied magnetic field and their uptake by cells in vitro. Results are presented on the distribution of particle sizes, the fluorescent and magnetic properties of the nanoparticles, and the nature of their surface bonds. Biocompatible ferrofluids with fluorescent nanoparticles enable optical tracking of basic processes at the cellular level combined with magnetophoretic manipulation and should be of substantial value to researchers engaged in both fundamental and applied biomedical research.