An Empirical Investigation of Methods to Reduce Transaction Costs

Abstract

Among 37 methods to reduce transaction costs, we recursively choose the best method for next period’s investment in each of three portfolio strategies: levered-momentum, zero-cost momentum, and the equally-weighted market. We identify a few of the best methods and offer a framework by which additional methods can be considered. Within our framework, the best methods recapture a substantial amount of wealth and significantly improve risk-adjusted performance, both economically and statistically. Security migration can present a barrier to transaction cost reduction, as improvements occur for zero-cost momentum portfolios invested in all stocks but not for decile-momentum portfolios.

Keywords: transaction costs, distance measures, portfolio optimization, momentum, equal weight portfolios

JEL Classification: G11, G12