TRADING TOM VS. BUY-AND-HOLD BETTY

This "Financial Focus" column is prepared by Edward Jones Investments, headquartered in St. Louis. Jones includes branches throughout the nation, including Cape Girardeau and Jackson.

You probably know Trading Tom. He's the investor who buys and sells all the time. He advertises how he made a big gain on a simple trade over the Internet. He tells you every time he wins (but probably never when he loses). Tom likes to buy and sell a stock every three months, going through four trades in a 12-month period.

Buy-and-hold Betty, on the other hand, buys a stock and keeps it for the same 12-month period. At the end of the year, if Tom and Betty had market returns of 10 percent on their stocks, Betty ends up with a 4.8 percent gain after taxes and commissions. Tom, on the other hand, realized a net loss of 1.8 percent.

Taxes take a bite out of gains

Part of the reason Tom ended up losing is that he did so much trading. He paid commissions on four trades, whereas Betty paid commissions only once.

The other factor cutting into Tom's return is his short-term approach. Gains on investments held less than 12 months are taxed as ordinary income, at rates up to 39.6 percent. However, gains on investments held 12 months or longer are treated more favorably, with tax rates of 20 percent or less.

Increasing the odds against Tom are the fact that he has to make four favorable decisions, consecutively. The odds of that happening on a consistent basis certainly decrease over time. In fact, based on Charles Ellis' book, "Winning the Loser's Game,~" investors lose money an average of 89 percent of the time when they try to time the market.

Betty, on the other hand, only has to make one good decision. Although that doesn't guarantee she'll make money, combining a buy-and-hold philosophy with strategies such as selecting high-quality stocks and diversifying among industries increases her chances of building a successful portfolio.

Internet trading may sound low-cost, but it actually may cost you more in the long run. The best way to achieve success is not by in-and-out trading, but rather by following time-tested strategies.

The Southeast Missourian does not recommend that readers buy or sell stocks featured in this column, which is provided for informational purposes only.