Definition: Transaction Cost

Transaction costs are fees or commissions charged by the broker whenever he buys or sells an investment. Reacting emotionally and deciding to sell when you hear bad news about a company, or buying every time someone hints that something big is going to happen is bad for your portfolio (even as it’s good for your broker’s wallets).

In addition to the potential opportunity cost of buying or selling a stock, every trade you make triggers a fee or commission. For that reason, brokers have little incentive to discourage your trading decisions.

This holds true for fund managers as well as individual investors. In the case of a mutual fund, the fund pays commissions, and possibly other fees, that are deducted from your portfolio. (There’s even a form of fraud called “churning,” which is when brokers execute pointless or unnecessary trades to generate more commissions. That’s why it’s important to understand how your investment professional is compensated.