What Works on Wall Street Ch. 6: The Cost of Actually Running It
阅读中文版Turnover, taxes, tracking error, and the honest comparison against simply buying a low-cost index fund.
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What Works on Wall Street Ch. 6: The Cost of Actually Running It
"Net return equals gross return minus costs, minus taxes, minus the probability you abandon the strategy at the worst moment." — the theme of this chapter
Investment Context
Chapter 5 established that backtested numbers need discounting. This chapter handles what remains: after the discount, what is left for an individual actually running this?
The Wall Street Translation
1. The Full Cost Inventory
| Cost | Magnitude | Notes |
|---|---|---|
| Trading costs | 0.2%–0.6% annually | Full turnover of 25–50 names, including spreads |
| Taxes | 1%–2.5% annually | Annual turnover realises everything; holdings under a year taxed as ordinary income |
| Time | 20–40 hours annually | Screening, ordering, records, filing |
| Data | $0–500 annually | A full multi-factor screen needs paid data |
Taxes are again the single largest item. Trending Value requires complete annual turnover, realising and taxing gains every year, where index fund gains defer for decades.
2. Tracking Error and Abandonment Risk
This is the most underestimated cost, and it appears on no fee schedule.
A strategy that differs markedly from the market will necessarily trail it badly in some years. Chapter 5 established that the real excess return is far smaller than backtested — but the lagging years do not shrink correspondingly. You endure the same psychological pressure for a fraction of the reward.
If you quit after three lagging years, you have captured the strategy's worst portion rather than its long-run average. The expected cost of that risk typically exceeds all other costs combined.
3. An Honest Comparison With an Index Fund
Suppose Trending Value's true excess return is 2% annually, already halved per Chapter 5. Subtract 0.4% trading costs and 1.5% taxes in a taxable account and roughly 0.1% remains — for materially higher volatility, worse diversification, and abandonment risk.
Run the same arithmetic in a tax-deferred account and about 1.6% survives, which is the only setting where it plausibly justifies itself. Account type determines the outcome more than the strategy's merits do.
4. The Simpler Alternative
If you believe value and momentum are real, low-cost factor ETFs deliver nearly identical exposure at expense ratios of roughly 0.15%–0.35%, handling turnover at the fund level with far better tax efficiency than an individual can achieve.
This matches the conclusion of A Random Walk Down Wall Street and The Little Book of Value Investing Chapter 6 elsewhere in this library: the theoretical advantage of active execution is usually consumed by costs and behavioural losses.
Actionable Trading Rules
- Compute the net figure before deciding: Convert backtested returns to net returns using your own account type, tax rate, and trading costs. Most people reach approximately zero in a taxable account.
- Prefer factor ETFs to a self-built portfolio: Absent a specific reason to think you can do better, low-cost factor funds provide the same exposure at lower cost and better tax efficiency.
- Write your abandonment condition down first: State explicitly when you would stop. If the answer is "after three lagging years," do not start now.
Relevance to a Retirement Portfolio
The conclusion deserves to be plain: for the great majority of retirement investors, the right action is holding low-cost broad index funds rather than running Trending Value or any multi-factor stock selection.
The book's durable value lies in Chapter 1, not Chapter 4: humans cannot apply their own rules consistently, so write decisions down as rules and execute them mechanically. Applying that to asset allocation and rebalancing — rather than to stock picking — is its greatest contribution to retirement money.