Small costs accumulate with turnover

Measure the change in position

A flat-to-long move changes exposure from 0 to 1: turnover is 1. A short-to-long reversal changes exposure from −1 to +1: turnover is 2. Counting both as one trade is useful for a trade count, but insufficient for a cost calculation.

At 10 basis points per unit, those changes cost 0.1% and 0.2% respectively. In the teaching backtest, net period return equals position times asset return, minus absolute position change times cost in basis points divided by 10,000.

Apply costs before compounding

Calculate each net return first, then multiply its growth factor into wealth. Subtracting a sum of costs from the final compounded return generally gives a different result because the timing of costs matters.

Our cost tool uses gross strategy returns you supply and one turnover value per period. Its dashed comparison is the same strategy before costs. Increasing costs should not improve each period’s net return under these fixed-input assumptions.

Test assumptions

The model treats the cost per unit as constant. It does not capture nonlinear market impact, borrow fees, financing or changes in liquidity. Try several cost assumptions and report whether your conclusion survives them.

Run the sensitivity tool, read the lesson, then include costs in the project.