At times, our investments do not turn out to be what we desire of it. That is the reason why we make changes to our portfolio to keep it aligned with the market conditions, among other reasons. This includes both buying as well as selling the stock, mutual fund holdings or other assets, as well as deciding on the specific holdings to hold on to in the hope of better returns.
This is called portfolio churning, and it is measured by the portfolio turnover ratio (PTR).
That said, if one were to follow the practice of portfolio churning too frequently, it could lead to cost implications. But that’s not all, these cost implications are almost always hidden, and thus, often go unnoticed.
A study done last year by Axis Mutual Fund found that investors made lower returns than the funds they invested in. This was because investors reacted to short-term movements and sentiment, and often ended up entering/exiting at the wrong time, or too frequently.
“Within an asset class like equity, once you pick a mutual fund, I would stay invested for atleast 3 years before deciding to exit. This is because equities in general, and fund managers specifically have cycles and you must ride a cycle for long enough before making a decision. The more frequently you take action on your portfolio, the more it is likely to hurt you in the long term,” says Kanika Agarrwal, co-founder of Upside AI, an ML-backed PMS.
Direct Cost To Frequent Portfolio Rebalancing
There is both a direct as well as indirect cost to frequent portfolio rebalancing. Let’s find out what the direct costs are.
Transaction Cost: For stock or mutual fund sold (in demat), your broker and demat account service provider will charge you the brokerage and other statutory charges, respectively. Although these charges are very low, but it can still add up to a big amount, if done very frequently.
“Simply put, high churning of a portfolio means buying and selling securities very frequently. High volume of transactions leads to high taxes and transaction costs, such as brokerage, securities transaction tax (STT), and other charges, thereby reducing the returns from your portfolio. Portfolio churn, also called as portfolio turnover, is the ratio of a minimum of securities bought or sold over the average assets of the portfolio,” says Ajay Modi, vice-president, Research Piper Serica Advisors and Smallcase manager.
He also explained with an example. Suppose an investor had an average portfolio of Rs. 1 lakh and purchased equity shares of Rs 25,000. Let’s also assume that in the same year, he sold Rs 30,000 worth of equity shares. Then, the portfolio turnover ratio would be 25 per cent, or, in other words, one-fourth of the assets of the portfolio were churned over the last one year.
Representational Image of An Investor Photo by Campaign Creators on Unsplash
Tax: Equity investment gains are either taxed as short-term capital gains (STCG) or long-term capital gains (LTCG). If one were to sell his/her equity investments within a year, then it would attract STCG tax, and this tax would be charged irrespective of one’s income tax slab rate. So, every time one sells a winning stock and invests elsewhere, he/she would actually be paying a tax on that, and this would eat into the returns.
“I think an investor should first start with an asset allocation plan – saying how much she wants to invest in equity, debt, gold, real estate, etc. She should relook at her asset allocation on a quarterly basis – to check whether she has moved too far away from her target weights and readjust if required,” added Agarrwal.
Indirect Cost To Frequently Churning One’s Portfolio
There are some hidden indirect cost to frequent portfolio churning, too.
Stress: If you frequently churn your investment portfolio because you feel that it is not generating enough returns or meeting your goals, you would in reality eventually end up adding to your stress.
“You might expect a particular stock or fund to give you good returns, but later get disappointed to see that it did not turn out as expected. Then you sell that and invest in another fund or stock, which also disappoints you. So, if you keep on exiting and entering funds or stocks frequently, then it might add to your stress levels.
This is why you should not frequently buy and sell your investments, as it can add to your anxiety levels, and hence, induce stress. You should always compare the long-term returns of a stock or fund before judging whether it’s lagging behind its peers or not. In a shorter time frame like a month or three months, the stock or fund may give less returns, but in the long term, it could potentially give a big return,” says Anup Bhaiya, managing director, Money Honey Financial
Frequent Portfolio Churning Can Add To Your Stress Photo by Tech Daily on Unsplash
Impulsive Investing: Let’s assume that you are investing according to your goals and financial plan set by your financial planner. But then, you make an impulsive purchase decision by seeing potentially higher returns in other risky high return assets, such as crypto, stock options, and others short-term gains. So, in essence, you have churned your investment portfolio partly to now include a riskier asset class, and hence, your financial plan also got changed due to this. Since you only have a finite amount of money, these impulsive investment decisions create an opportunity cost. It essentially means that you have to forego other investments in favour of the investable assets you decide to go with now.
“An investor might have invested in a fundamentally good stock that gave multi-bagger returns in the past, but is currently underperforming the broader market. So, by making an impulsive decision, he decides to invest in another stock or asset – which has potentially more risk, but higher returns – by selling this stock. For example, he might be having a blue-chip stock in his portfolio that gives him a nominal return.
But Bitcoin and other cryptos are giving returns like 30 or 40 per cent. So, he might sell his blue-chip stock and use the proceeds to buy Bitcoins. But, unfortunately, this practice will hurt him in the long term, since he has sold a fundamentally good company’s stock to buy something that is highly risky,” adds Bhaiya.
TORONTO – Canada’s main stock index was down more than 200 points in late-morning trading, weighed down by losses in the technology, base metal and energy sectors, while U.S. stock markets also fell.
The S&P/TSX composite index was down 239.24 points at 22,749.04.
In New York, the Dow Jones industrial average was down 312.36 points at 40,443.39. The S&P 500 index was down 80.94 points at 5,422.47, while the Nasdaq composite was down 380.17 points at 16,747.49.
The Canadian dollar traded for 73.80 cents US compared with 74.00 cents US on Thursday.
The October crude oil contract was down US$1.07 at US$68.08 per barrel and the October natural gas contract was up less than a penny at US$2.26 per mmBTU.
The December gold contract was down US$2.10 at US$2,541.00 an ounce and the December copper contract was down four cents at US$4.10 a pound.
This report by The Canadian Press was first published Sept. 6, 2024.
TORONTO – Canada’s main stock index was up more than 150 points in late-morning trading, helped by strength in technology, financial and energy stocks, while U.S. stock markets also pushed higher.
The S&P/TSX composite index was up 171.41 points at 23,298.39.
In New York, the Dow Jones industrial average was up 278.37 points at 41,369.79. The S&P 500 index was up 38.17 points at 5,630.35, while the Nasdaq composite was up 177.15 points at 17,733.18.
The Canadian dollar traded for 74.19 cents US compared with 74.23 cents US on Wednesday.
The October crude oil contract was up US$1.75 at US$76.27 per barrel and the October natural gas contract was up less than a penny at US$2.10 per mmBTU.
The December gold contract was up US$18.70 at US$2,556.50 an ounce and the December copper contract was down less than a penny at US$4.22 a pound.
This report by The Canadian Press was first published Aug. 29, 2024.
The crypto market has recently experienced a significant downturn, mirroring broader risk asset sell-offs. Over the past week, Bitcoin’s price dropped by 24%, reaching $53,000, while Ethereum plummeted nearly a third to $2,340. Major altcoins also suffered, with Cardano down 27.7%, Solana 36.2%, Dogecoin 34.6%, XRP 23.1%, Shiba Inu 30.1%, and BNB 25.7%.
The severe downturn in the crypto market appears to be part of a broader flight to safety, triggered by disappointing economic data. A worse-than-expected unemployment report on Friday marked the beginning of a technical recession, as defined by the Sahm Rule. This rule identifies a recession when the three-month average unemployment rate rises by at least half a percentage point from its lowest point in the past year.
Friday’s figures met this threshold, signaling an abrupt economic downshift. Consequently, investors sought safer assets, leading to declines in major stock indices: the S&P 500 dropped 2%, the Nasdaq 2.5%, and the Dow 1.5%. This trend continued into Monday with further sell-offs overseas.
The crypto market’s rapid decline raises questions about its role as either a speculative asset or a hedge against inflation and recession. Despite hopes that crypto could act as a risk hedge, the recent crash suggests it remains a speculative investment.
Since the downturn, the crypto market has seen its largest three-day sell-off in nearly a year, losing over $500 billion in market value. According to CoinGlass data, this bloodbath wiped out more than $1 billion in leveraged positions within the last 24 hours, including $365 million in Bitcoin and $348 million in Ether.
Khushboo Khullar of Lightning Ventures, speaking to Bloomberg, argued that the crypto sell-off is part of a broader liquidity panic as traders rush to cover margin calls. Khullar views this as a temporary sell-off, presenting a potential buying opportunity.
Josh Gilbert, an eToro market analyst, supports Khullar’s perspective, suggesting that the expected Federal Reserve rate cuts could benefit crypto assets. “Crypto assets have sold off, but many investors will see an opportunity. We see Federal Reserve rate cuts, which are now likely to come sharper than expected, as hugely positive for crypto assets,” Gilbert told Coindesk.
Despite the recent volatility, crypto continues to make strides toward mainstream acceptance. Notably, Morgan Stanley will allow its advisors to offer Bitcoin ETFs starting Wednesday. This follows more than half a year after the introduction of the first Bitcoin ETF. The investment bank will enable over 15,000 of its financial advisors to sell BlackRock’s IBIT and Fidelity’s FBTC. This move is seen as a significant step toward the “mainstreamization” of crypto, given the lengthy regulatory and company processes in major investment banks.
The recent crypto market downturn highlights its volatility and the broader economic concerns affecting all risk assets. While some analysts see the current situation as a temporary sell-off and a buying opportunity, others caution against the speculative nature of crypto. As the market evolves, its role as a mainstream alternative asset continues to grow, marked by increasing institutional acceptance and new investment opportunities.
