What is a precise mathematical definition of portfolio turnover? Here’s a question to tease out the various issues.
Suppose I have a market-neutral fund starting with $1MM. The portfolio goes long a bastket of stocks equal to $1MM and goes short a basket equal to $1MM in value. In 6 months, the long portfolio is replaced with a whole new set of long stocks, and the short portfolio is replaced with a new set of shorts. The longs never overlapped with the shorts. In 1 year, the long and short portfolios are liquidated leaving $1.5 MM in cash.
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You need to calculate how many times your long position (and the short as well) will be replaced. In order to turn over your long position you need to sell it and then to buy a new bunch of stocks. The similar operation concerns the short position, but in the reverse order. Each turn of buy/sell/buy incurs transaction costs. So you can easily get how many times your portfolio has been turned over. If you turn over just a portion of either position, then, calculate that portion which to be less than 1.
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That link explains the mutual fund portfolio turnover - it is not the same thing the author has asked about.
@ramdabom,
I realize this is an old thread, but I’ll add my two cents in case you’re interested.
To answer OP’s question precisely, I found a precise definition on a long/short fund’s website. The definition makes sense to me and it is in line with @ua_bender 's definition.
The portfolio turnover (12 months trailing) calculation is the lesser of long buys plus short sales or long sales plus short covers divided by the average gross value of portfolio securities excluding cash equivalents.
Xavier
Thank you for your comment. It is a pleasure to find myself to be useful even if 10 years passed by. Very glad my comments then helped the candidates to crunch the nuts. I have since been a retired CFA due to my age and the war in Ukraine got me out from everything I had had including my work. Wish you the best in your career.
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CFA definitely crunched my nuts. 