Overtrading, which is commonly called churning, is an illegal practice that can cause you to lose money as an investor. Though this is prohibited and your broker should never do it, if they have control of your money and your account, you need to know what red flags to watch out for.
Essentially, churning happens because brokers make a commission on trades. The idea is that they identify a good trade so that you don’t have to, they use your money to invest and earn more, and they get paid the commission for their services.
When they decide to trade too often, putting through numerous trades with no clear reason and possibly no gains — or, at least, lateral moves — they do it just for the commissions. They know that they’ll get paid no matter what. The more trades they make, the more they earn.
The broker likely just hopes that you will not notice. If you make money, you may not. But it’s worth noting that even an account that doesn’t technically lose money overall could still be victimized by churning. Without all of those trades, would you have earned even more? Did the excessive commissions make a serious dent in your earnings that could easily have been avoided?
While most brokers do have your best interests in mind and know that they must abide by current financial laws, churning or overtrading does still happen. When you lose out on significant financial gains as a result, you need to know all of the legal steps that you can take moving forward.
