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Author: trader2012 Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 27425  
Subject: Re: stocks suggestions needed Date: 9/2/2012 3:03 PM
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If nothing else, [he] should at least be aware of the headwind he's creating for himself when the principal is small relative to the fees incurred.

Mike,

Why do people like Bogle focus so much on the costs of transaction? Because it's such an easily identified factor compared to the far more elusive ones like understanding how to evaluate and manage risk.

Run this thought experiment. Take two investors, one a beginner and one an experienced hand with a proven track record of achieving better than average returns. Give each the same-sized account. But reduce the beginner's transaction costs to zero and that require that the experienced hand pay a 5% commish on every trade. No matter the asset-class chosen, no matter the time-frame, the odds are 17:20 that the beginner will go bust but the experienced hand will break even or better.

Yeah, commish is a headwind better avoided. But inexperience will kill an account faster than transaction costs. That's what beginners need to focus on, acquiring experience as fast as they can, all the while not getting themselves thrown out of the game before they've had a chance to learn the game. Commissions aren't going to kill a beginner's account as fast as putting on an ill-conceived trade and then not knowing what to do when prices move against it. You need to look no further for evidence of this that the idiots who bought FB at its IPO but failed to trail a stop.

Even with just $300 buck to work with, any beginner could set up a training program and do the dozens of trades they need to before they begin to understand that success in the investing game isn't about the minor junk like commissions, but a matter of picking trades with a favorable expectancy and then never letting prices move against them further than their pre-set loss-limits.

Yeah, commissions are a headwind, but really so only for those who target the excessively low rates of gain that merely average investors achieve. E.g., If you're paying 3.3% per side, (or 6.6% per round trip) but pulling the 20% to 40% out of the market per trade that Quill often reports (or that I often achieve), then commissions are a nuisance, but a tolerable one.

OTOH, if you're doing no better with your investing than the so-called "average investor", i.e., typically not even making 60% of your benchmark, as Dalbar documents with its 20-year studies, then, yeah, reducing commissions from 3.3% down to 1% (or less) will have a significant impact on net-profits. But those kinds of investors have far more basic things they should be worrying about, namely, their tiny, not-much-better-than-cash, 5%-8% profits.

And they call themselves "investors"? That's a huge part of the reason why the median net-worth (all assets) in this country is an underwhelming $77,000 and three-quarters of pre-retirees have less than $34,000 in their 401ks. They have followed Bogle's advice to chose low-transactional investments. But they ignored the more important part of the equation, namely, learning how to achieve decent-sized profits in good markets and bad.

In the hay days of the late '90s, even dart-throwing achieving gains in the range of 20%-30%. But how well have those same investors done in the past decade? After taxes and inflation, they haven't even achieved a real rate of return. Why? They ran out of luck. Pair 'luck' with 'zero transaction-costs' and what will you get? Exactly what now you're seeing that investors are achieving, because, for the most part, transaction costs have fallen to nearly zero, but their skills haven't improved. How many hundred of ETFs can be traded commission-free? How many brokers offer half-cent per share stock commissions? Costs aren't what a beginner needs to worry about. Getting the direction of prices right and timing the exit is what matters most. Everything else is minor details. $300 bucks, if spent wisely on executing actual trades, would buy a lot of market experience, maybe even enough to begin to learn the game.

Charlie
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