Trading Is Hazardous to Your Wealth - The Common Stock Investment Performance of Individual Investors

Oct 22, 2026

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Individual investors who trade common stocks directly face a performance penalty from active trading. Using data from 66,465 households at a large discount broker (1991–1996), frequent traders earn 11.4% annually versus 17.9% for the market, while average households earn 16.4%. Results show overconfidence driving excessive turnover (often above 250%) and significant underperformance versus benchmarks after transaction costs.

LanguageEnglish

CategoryResearch & Report

FormatPDF

Pages34

Reading Time1 h 26 min

AccessFree to download

Abstract

Performance penalty from active trading

Overconfidence and excessive trading

Underperformance versus benchmarks

Data, methods, and theories

Trading Is Hazardous to Your Wealth: The Common Stock Investment Performance of Individual Investors BRAD M. BARBER and TERRANCE ODEAN* ABSTRACT Individual investors who hold common stocks directly pay a tremendous performance penalty for active trading. Of 66,465 households with accounts at a large discount broker during 1991 to 1996, those that trade most earn an annual return of 11 .4 percent, while the market returns 17 .9 percent. The average household earns an annual return of 16.4 percent, tilts its common stock investment toward high-beta, small, value stocks, and turns over 75 percent of its portfolio annually. Overconfidence can explain high trading levels and the resulting poor performance of individual investors. Our central message is that trading is hazardous to your wealth. The investor’s chief problem—and even his worst enemy—is likely to be himself. Benjamin Graham In 1996, approximately 47 percent of equity investments in the United States were held directly by households, 23 percent by pension funds, and 14 percent by mutual funds ~Securities Industry Fact Book, 1997!. Financial economists have extensively analyzed the return performance of equities managed by mutual funds. There is also a fair amount of research on the performance of equities managed by pension funds. Unfortunately, there is little research on the return performance of equities held directly by households, despite their large ownership of equities. * Graduate School of Management, University of California, Davis. We are grateful to the discount brokerage firm that provided us with the data for this study. We appreciate the comments of Christopher Barry, George Bittlingmayer, Eugene Fama, Ken French, Laurie Krigman, Bing Liang, John Nofsinger, Srinivasan Rangan, Mark Rubinstein, René Stulz ~the editor!, Avanidhar Subrahmanyam, Kent Womack, Jason Zweig, two anonymous reviewers, seminar participants at the American Finance Association Meetings ~New York, 1999!, the 9th Annual Conference on Financial Economics and Accountancy at New York University, Notre Dame University, the University of Illinois, and participants in the Compuserve Investor Forum. All errors are our own. 774 The Journal of Finance In this paper, we attempt to shed light on the investment performance of common stocks held directly by households. To do so, we analyze a unique data set that consists of position statements and trading activity for 78,000 households at a large discount brokerage firm over a six-year period ending in January 1997 . Our analyses also allow us to test two competing theories of trading activity. Using a rational expectation framework, Grossman and Stiglitz ~1980! argue that investors will trade when the marginal benefit of doing so is equal to or exceeds the marginal cost of the trade. In contrast Odean~1998b!, Gervais and Odean ~1998!, and Caballé and Sákovics ~1998! develop theoretical models of financial markets where investors suffer from overconfidence. These overconfidence models predict that investors will trade to their detriment.1 Our most dramatic empirical evidence supports the view that overconfidence leads to excessive trading ~see Figure 1!. On one hand, there is very little difference in the gross performance of households that trade frequently~with monthly turnover in excess of 8 .8 percent! and those that trade infrequently. In contrast, households that trade frequently earn a net annualized geometric mean return of 11.4 percent, and those that trade infrequently earn 18 .5 percent. These results are consistent with models where trading emanates from investor overconfidence, but are inconsistent with models where trading results from rational expectations. Though liquidity, riskbased rebalancing, and taxes can explain some trading activity, we argue that it belies common sense that these motivations for trade, even in combination, can explain average annual turnover of more than 250 percent for those households

FAQs

What is the central finding about individual investors’ active trading performance?

Active trading by individual investors leads to a performance penalty. Frequent traders earn substantially lower net returns than the market and underperform relevant benchmarks after transaction costs.

How do the results compare between frequent and infrequent traders?

Households that trade frequently earn 11.4% annually, while those that trade infrequently earn 18.5%. The gap supports the view that excessive trading is harmful.

What explains why trading is hazardous to investors’ wealth?

The study argues that overconfidence can explain high trading levels and resulting poor performance, producing turnover far larger than can be justified by liquidity, risk rebalancing, and taxes alone.

Oct 22, 2026

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