When evaluating a Portfolio Management Service, investors often focus on returns. They may look at how a PMS strategy has performed over the last three or five years, compare it with a benchmark and then decide whether the strategy fits their investment goals.
But there is another factor that can tell you a lot about how a portfolio is being managed: portfolio turnover.
Portfolio turnover refers to how frequently investments in a portfolio are bought and sold. A portfolio with limited buying and selling generally has lower turnover, while a portfolio where stocks are regularly replaced or positions are frequently changed has higher turnover.
Turnover by itself is neither good nor bad. An active strategy may need to make frequent changes when the portfolio manager sees new opportunities or believes that an existing investment no longer fits the strategy. At the same time, frequent trading can increase transaction costs and may affect the investor’s final returns.
For a PMS investor, therefore, understanding portfolio turnover can provide useful context behind the return number.
What Is Portfolio Turnover in PMS?
Portfolio turnover is essentially a measure of how much buying and selling takes place within a portfolio over a particular period.
Imagine a PMS portfolio where the manager buys a stock and holds it for several years because the investment thesis remains unchanged. The portfolio would generally have lower turnover.
Now consider another portfolio where the manager regularly exits stocks, enters new positions, increases or reduces existing holdings and changes sectors based on market conditions. That portfolio would generally have higher turnover.
The difference reflects the investment approach.
A long-term, conviction-based strategy may naturally have lower turnover, while a more active or tactical strategy may involve more frequent transactions.
This is why investors should not look at the turnover number in isolation. The more important question is whether the level of trading is consistent with the strategy and whether the decisions are adding enough value to justify the associated costs.
Why Does Portfolio Turnover Matter?
Every time a portfolio buys or sells a security, there can be costs associated with the transaction. These can include brokerage and other transaction-related charges. SEBI’s own portfolio turnover disclosures note that frequent trading can increase transaction costs such as brokerage.
These costs may appear small when viewed individually. However, when transactions happen frequently over a long period, they can add up.
This matters because investment returns are ultimately about what remains with the investor after the various costs associated with managing the portfolio.
For example, suppose two portfolios generate similar gross returns before costs. If one portfolio requires significantly more buying and selling, its transaction costs may be higher. This can create a difference in the returns that the investor actually receives.
In other words, the return generated by the investment decisions is only one part of the picture. The cost of implementing those decisions also matters.
Higher Turnover Does Not Automatically Mean Higher Returns
One common misconception is that a portfolio manager who trades more frequently must be working harder to generate better returns.
That is not necessarily the case.
A high-turnover portfolio simply indicates that there is more buying and selling. It does not tell you whether those decisions were successful.
A manager might sell a stock because the original investment thesis has changed. They might also buy another stock because they see a better opportunity elsewhere. If those decisions improve the portfolio, the additional trading may be justified.
But frequent trading without enough benefit can increase costs without creating a corresponding improvement in returns.
This is why turnover should be viewed alongside performance, investment philosophy and the reasons behind portfolio changes rather than treated as a standalone measure.
How Turnover Can Increase Transaction Costs
Consider a simple example.
Suppose a PMS portfolio is worth ₹1 crore. The manager makes several large portfolio changes during the year, repeatedly selling existing stocks and buying new ones.
Every transaction can involve costs. Individually, each charge may appear relatively small. But when the portfolio is frequently turned over, the cumulative cost can become more meaningful.
SEBI’s portfolio turnover policies have specifically recognised the connection between frequent trading and transaction costs.
This does not mean investors should automatically avoid a high-turnover strategy. Instead, they should understand why the manager is trading frequently and whether the strategy’s performance justifies the additional costs.
Turnover Can Also Affect Tax Efficiency
There is another factor PMS investors need to consider: taxes.
PMS portfolios involve direct ownership of securities in the investor’s account. SEBI’s investor education material explains that PMS differs from mutual funds in this respect, with securities held directly for the individual investor.
When securities are sold, the transaction can result in realised capital gains or losses for the investor. Frequent selling can therefore lead to more frequent realisation of gains.
This can matter when comparing two strategies with similar headline returns.
Suppose one strategy tends to hold investments for longer periods while another regularly buys and sells stocks. Their gross performance may look similar, but the timing and frequency of realised gains can lead to different tax implications for the investor.
This is one reason looking only at a PMS strategy’s headline return may not provide the complete picture.
Investors should consider their own tax situation and consult a qualified tax professional before making decisions based on tax implications.
Turnover and the Difference Between Gross and Net Returns
One of the most important ideas for investors to understand is the difference between gross and net returns.
Gross returns refer broadly to the performance before certain costs, while net returns reflect what remains after applicable fees and expenses.
PMS involves fees that are agreed upon between the portfolio manager and client. SEBI’s PMS regulations require the fee structure and related charges to be disclosed to clients.
Transaction costs sit alongside these considerations.
For example, imagine a strategy generates a 15% gross return during a particular period. If the strategy has relatively high trading activity, the investor may incur more transaction-related costs than they would in a lower-turnover strategy.
The point is not that one specific turnover level will produce a specific return. There is no such fixed relationship.
Instead, investors should understand that the cost of implementing an investment strategy can influence the return they ultimately experience.
A Simple Example
Suppose two PMS strategies each manage a portfolio of ₹1 crore.
Strategy A follows a relatively stable approach. It buys a group of companies based on a long-term investment thesis and changes the portfolio only when the thesis changes.
Strategy B is more active. It regularly exits stocks and replaces them with new opportunities.
Now assume both strategies generate the same gross return before transaction costs.
The second strategy is likely to have more transactions and therefore potentially higher transaction-related costs.
If the additional trading does not produce additional performance, the extra costs can reduce the investor’s net return.
However, if Strategy B’s active decisions generate significantly better performance, the additional trading may be justified.
This example highlights an important point: turnover should be evaluated in relation to the value it creates.
What Should Investors Look At Alongside Turnover?
Portfolio turnover becomes more useful when it is studied together with other information.
Start with the investment philosophy. Does the PMS follow a long-term approach, a tactical strategy or something in between? A turnover level that makes sense for one strategy may not make sense for another.
Next, look at the portfolio’s historical performance over different periods. A single strong year may not tell you much about how consistently the strategy has worked.
It is also useful to understand the costs involved. PMS fees, transaction costs and other applicable charges can affect what an investor ultimately receives.
Investors should also understand the level of concentration and risk in the portfolio. A portfolio can have low turnover but still carry significant concentration risk if a large portion of the portfolio is invested in a small number of companies.
SEBI’s investor material highlights market, concentration, liquidity and managerial risks among the considerations associated with PMS.
Low Turnover Is Not Automatically Better
It may be tempting to assume that a low-turnover portfolio is always more efficient because it trades less.
That conclusion would also be too simplistic.
A manager may hold a stock for a long time even after the original investment case has weakened. In that situation, low turnover is not necessarily a sign of better portfolio management.
Similarly, a portfolio manager may need to sell an investment because its valuation has changed, the business outlook has deteriorated or a better opportunity has emerged elsewhere.
The objective should not be to minimise trading at any cost.
The objective is to understand whether portfolio changes are being made for sound investment reasons and whether the resulting performance justifies the costs involved.
What Does High Turnover Tell You?
A high turnover ratio can tell you that the portfolio is actively being changed.
It may indicate that the portfolio manager follows a strategy that relies on identifying and acting on changing opportunities. It could also reflect changes in market conditions or the need to rebalance the portfolio.
But turnover alone cannot tell you whether those decisions were successful.
That requires looking at the broader record of the strategy, including its performance, risk, costs and consistency.
The same turnover figure can mean different things for two different PMS strategies because their investment objectives and methods may be completely different.
Look Beyond the Headline Return
When evaluating a PMS, it is easy to focus on one number.
A strategy may have delivered an impressive return over a particular period, but investors should understand how that return was generated.
Was the portfolio relatively stable or frequently changed? How concentrated was it? What were the associated costs? How did the strategy perform across different market conditions?
These questions can provide more context than the headline return alone.
SEBI requires PMS providers to make disclosures relating to their services, fees, risks and performance, giving investors information that can be used when evaluating a portfolio manager.
The Bottom Line
Portfolio turnover is an important part of understanding how a PMS strategy operates.
A high turnover portfolio is not automatically a problem, just as a low turnover portfolio is not automatically better. What matters is why the portfolio is being changed and whether those changes create enough value to justify the costs involved.
Frequent buying and selling can increase transaction costs and can also result in more frequent realisation of gains. Over time, these factors can affect the investor’s net returns.
For this reason, PMS investors should look beyond the headline performance number. Understanding the strategy, turnover, costs, risks and net returns can provide a more complete picture of what an investment approach is actually delivering.
The goal is not to find a particular turnover number and assume it is ideal. Instead, investors should understand what the number says about the way their money is being managed and whether that approach fits their investment objectives, time horizon and risk tolerance.
