There is one very important question we get from investors on a regular basis. How often should they sell investments they own and buy new ones? Our answer never varies. Do it as rarely as possible. That’s because turnover in your portfolio cuts into your profits.

You face three costs every time you buy and sell a stock:

1. Brokerage commissions: Every transaction you make in your portfolio involves brokerage commissions or similar costs, even if these costs are hidden or built into the price you pay or receive.
2. Losses to the bid/ask spread: If you want to carry out a transaction right away, you have to accept the highest available “bid,” or pay the lowest “offer.” You can enter your own bid or offer. But this means you have to wait for another investor who is willing to do business at your price. Meanwhile, prices could move against you.
3. Taxes: If you sell at a profit in your taxable account (outside your RRSP or tax-free savings account), you usually have to pay capital gains taxes.

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Stock trading advice: Adding up the numbers for portfolio turnover

To measure your portfolio turnover, add up the value of all the investments you bought during the year and all the investments you sold. Next, add the beginning and year-end values of your investment portfolio. Divide the first number by the second.

For example, say you sold $24,000 of investments in 2010. You held on to $4,000 to pay capital-gains taxes, and bought $20,000 of investments. That’s a total of $44,000. Your portfolio is worth $55,000 at the beginning of the year and $62,000 at year’s end, for a total of $117,000.

Now divide $44,000 by $117,000. The result: 37.6%. That means you replaced an average of 37.6% of your portfolio in 2010. That’s on the high side. Many successful investors have portfolio turnover of 25% or less a year—often much less.

Our stock trading advice: It pays to seek out stocks that you believe you will be prepared to hold on to indefinitely. You’ll change your mind on some of them, of course. But you’ll hold others for decades, and these stocks will give you your biggest profits.

As a member of TSI Network, you may have already seen “Canadian Stock Market Basics: How to Trade Stocks and Make Good Investments in Canada.” If you haven’t yet read this new free report, click here to download your copy today. I’d also encourage you to share this report with a friend.