Successful Investing - Avoiding Implementation Shortfalls

An issue every investor faces is that of successfully implementing his investment strategy.

It’s nice to read or hear about great investing strategies but oftentimes, when you try to implement them, they fail to deliver the superior returns.

Here are some key points to consider to maximize your chance of success when you implement your strategy.

Transaction Costs

Advertised performances seldom take into account trading costs. One reason is that costs will be very different depending on which stock broker you use.

Ensure your Trading Cost is kept under 1%. Reciprocally, always remove a good 1% for transaction costs from any performance numbers you see.

Bid-Ask spread

This is a hidden fee and can be a Killer. It is too easy not to pay attention to: for instance, Bid-Ask spread is not included in Mutual Fund’s Expense Ratios. Very few studies or performances from investment books take it into account.

Bid-Ask spread is larger for small Cap (sometimes in excess of 1%) than for large Cap (usually less than 0.25%).

Turnover rate is also very important.

Value Investing with lower turnover rate and larger market capitalizations will suffer less than Momentum strategies that typically invest in smaller cap and keep stocks for just months, weeks or even days.

For instance, a strategy investing in small cap with 1% average Bid-Ask spread and an annual turnover rate of 300% will loose 1%*300%=3% per year. This is on top of trading costs !

Can you execute the trades ?

Most investment strategies assume that you Buy and Sell Stocks at specific time but can you, in practice, buy or sell at that specific time ?

How often have you seen Stock Picks recommendations - often on week-ends - but then on Monday it is impossible to execute at the Friday’s price because the share skyrocket 20% at the opening.

Later, the guru proudly announces that his stock pick outperformed but you could not buy at the set price so could not reap the advertised gain.

This can be an issue for strategies with frequent trades. Again, Value Investing will suffer less because there are fewer trades so it is less sensitive to exact entry/exit points.

Diversification

After a strategy is highlighted, it is not rare to see it underperforming. A good example is the Dogs of the Dow. The strategy underperformed after it was detailed in the early 90s.

Many attribute its underperformance to the fact that too much money flowed into the strategy thereby reducing its efficiency. I rather attribute its underperformance to the biggest Bull Market in History where Value Investing was less rewarding than Growth/Momentum.

A take is that every strategy will underperform at some point. This is when your nerves will be at test and when you will be tempted to abandon and switch strategy... only to see it outperform afterwards.

The simple solution – highly recommended - is to diversify with 2 or more investing strategies.

Since then, the Dogs of the Dow has been outperforming the Dow Jones and the S&P500 since 2000.

Conclusion for Successful Investing

Whatever your investment strategy, there will be a difference between paper profits and real profits. This is true even if you invest in Index Funds.

To maximize your chance of success in the Stock Market:

- Strive to keep transaction costs below 1% per year
- Pay great care to strategies investing in Smaller Cap with high Bid-Ask spread
- Beware strategies with frequent trades
- Diversify