How Copytrading stats on eToro Work

I've seen this questions so many times, from my own copiers and from many other users on eToro, "Why my returns are not the same as the Popular Investor that I'm copying?" eToro calculates stats with the same industry standards used by hedge funds and mutual funds all around the world. But unfortunately, these do not really work when a user is copying the trades of a popular investor. There are other factors at play. I've set up a hypothetical portfolio of a Popular Investor with 4 copiers copying her on the same day but with different returns.

Let's assume that the Popular Investor started investing on eToro on the last trading day of 2013. she invested $10 000 in the following securities: $5000 in Apple (AAPL) - 50% $4975 in the 20+ years Treasury Bond ETF (TLT) - 49.75% $25 in Bitcoin (BTC) - 0.25% For simplicity, we will use only prices on the last trading day of each year and assume that all transactions were done on that day. We will also ignore all dividends paid. Here of the prices of these securities for the last trading day of each year:

It means that when the popular investor invested in 2013, she owned the following: 62.50 AAPL

49.25 TLT

0.03 BTC

In 2014, she got 4 copiers, copiers A, B, C, and D. Copiers A, B and C all copied her with $10 000 while Copier D copied her with only $200. The following trades were opened for Copiers A, B and C: $5000 in AAPL

$4975 in TLT $25 in BTC When the Popular Investor invested $5000 in AAPL in 2013, he could buy 62.50 shares. But when the Copiers invested $5000 in AAPL in 2014, they each buy only 45.45 shares since the price of AAPL increased from $80.00 to $110.00 in that year. Copiers A,B, anc C, therefore owns the following:

45.45 AAPL

39.80 TLT

0.08 BTC which is very different from the portfolio of the Popular Investor. Copier D, who only invested $200, failed to open the BTC trades as a minimum of $1 is needed to open a trade. BTC represented 0.25% of the Popular Investor's portfolio and $0.50 of the the $200. Copier D, therefore, owned the following: 0.91 AAPL

0.80 TLT with the remaining $0.50 in cash.

Since Copiers A, B, and C have the same portfolio, their returns in 2015, 2016 and 2017 were the same but we can already see that these returns are different from that of Copier D (who missed on the Bitcoin boom of 2017) and from the Popular Investor (who bought Bitcoin at a higher price than her copiers). In 2017, the Popular Investor made some changes to her portfolio. She added $5000 (50% of the original investment) and advised her copiers to add 50% more to the copy amount. Copier A heeded the advice and added $5000 (50% of his original investment) Copier B added only $1000 (10% of his original investment) Copier C and D ignored the advice. The Popular Investor used that extra $5000 to buy the Gold ETF (GLD). She was able to buy 40.65 shares. Copier A bought 40.65 shares Copier B bought only 8.13 shares Copier C and D bought nothing. As expected, the returns of the five investors were very different in 2018 and 2019:

And after 5 years, their cumulative total returns were very different:

All the four Copiers managed to beat the Popular Investor. Let's now analyze these findings. We will first look at the absolute spread between the cumulative total returns of each Copier with that of the Popular Investor.

There is no clear indication that the spread will go down over time but it is clear that when the Popular Investor makes new trade, the spread gets larger as we can see in 2017 for all the Copiers including Copier A, who did exactly what the Popular Investor did. The spread for Copier A, however, seems to be fading away and in 2019 is negligible. We cannot say for sure that this is something that we can always expect since we will need to look at different models to confirm that. What we can note, however, is that the spread didn't go beyond 5% for none of the Copiers although during that period Bitcoin prices rose by more than 4000% and then crashed.

Does all of this means that Copytrading doesn't work? Absolutely not. Let's look at the Annual returns for each investor:

The returns of all the investors are about the same. All of the Copiers beat the Popular Investor (something that may not always happen) and Copier C beat him by 1% per year. This is only on a five year period. I don't know if the spread will go away in time but I believe so as over time whether you invested on a Monday or a Friday in a particular week doesn't mean much. We looked at only a concentrated portfolio with a minimal number of trades. If the portfolio is more diversified and the Popular Investor makes more trades, I believe that the spread will be lower since negative and positive spreads will cancel each other. I'm not going to test these two hypotheses but from this analysis, I can say that if you see your Popular Investor's returns different from yours, just give it some time. Over time, your annual returns will be about the same as hers. Remember that on eToro you're not paying the huge fees that you would normally pay to 'copy' the portfolio of a hedge fund or mutual fund. If you're copying someone on eToro, you are copying not only their past trades but also their future trades and most importantly, you are copying their investing or trading style. Does it really matter if your annual returns is 1% more or less than theirs?

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