Commission Drag; Managing Your Trading Expenses
Commission drag is often an unknown factor for new traders. However it is essential and any professional trader will be able to tell you their figure.
So what is commission drag? It’s the cost of trading. Like any business you need to assess all revenue and expenses to determine if you’re on the road to riches or the road to ruin. Today we’ll focus on one important expense. Here’s a real time example.
Recently I received a call from a friend who was interested in purchasing a high end trading strategy. As he’d never traded before and large sums of money were involved he wanted me to take a closer look. I gave the vendor a call to get further information. In summary:
Recommended account size: $50,000
Required platform: CFDs (strategy trades long and short)
Average CFD commission: $10
# trades p.a.: 300 round turns (600 trades)
Subscription cost: $2,400 p.a.
Commission cost: $6,000 p.a.
Funding cost: unknown
Slippage cost: unknown
Annual return required to breakeven: 16.8% + unknowns.
Funding costs could be as much as $2,000 and slippage could be similar, so the 16.8% is reasonably conservative.
Here we have a complete novice who needs to make a conservative minimum 16.8% return just to breakeven. Is this possible? Of course anything is possible. But it’s not probable and therefore considered an extremely risky venture. It is your responsibility to keep the drag on your account as low as possible. It’s one of the only things you can control in this business. Ideally commission drag should be less than 5% in order to maximize your return. The lower the drag the better.
Tips to Reduce Your Commission Drag
→ Trading longer term (i.e. holding stocks for longer) will lower trade frequency and therefore lower commission drag.
→ If your drag is over 5%, either add capital or wait until more capital is available.
→ Change broker if needed.
→ If you want to trade short term,
(a) investigate deep discount brokers such as Interactive Brokers or TradeStation Securities.
(b) consider trading US shares at a fraction of the cost of trading Australian shares.
(c) investigate strategies such as our Growth Portfolio that does minimal trades.