The most reliable way to destroy the long-run benefits of compound growth is to interrupt the compounding process in search of something more interesting. Each interruption—each sale of a compounding position to fund a new opportunity, each reallocation driven by excitement rather than analysis—resets the compounding clock on the exited position. The new position begins compounding from day one, regardless of the gains that have already been accumulated in the exited one. If the new position performs as well as the old one, the investor breaks even on the exchange. If it performs worse—as the empirical evidence suggests most actively chosen replacements do—the interruption has been genuinely costly, and the cost compounds over the remaining investment horizon.
The excitement that motivates interruption of compounding typically comes from one of several sources. There is the excitement of a new investment thesis—a sector, a technology, a company that appears to offer returns superior to those available from the investor's current holdings. There is the excitement of market volatility—a decline that appears to offer a better entry point than the investor's current positions, or a rally that appears to offer profits to be taken. There is the excitement of financial innovation—a new product, instrument, or strategy that promises to deliver better risk-adjusted returns than conventional approaches. Each of these sources of excitement is genuine; each produces investment activity that feels rational and productive; and each has the same mathematical consequence of interrupting compounding that has been accumulating.
The opportunity cost calculation that should govern the decision to interrupt compounding is almost never performed explicitly. The investor who sells a position to fund a new one asks whether the new position is likely to perform well. She typically does not ask: compared to what? The comparison she should be making is not against a cash alternative but against the specific position she is exiting—which has a known compounding history, known fundamental characteristics, and a return stream that the new position will need to exceed, after transaction costs and taxes, simply to break even on the exchange. When this comparison is made explicitly, the case for most interruptions of compounding is substantially weaker than it appears when the new opportunity is evaluated in isolation.
The tax dimension compounds the problem significantly. In taxable accounts, selling a position that has appreciated triggers a capital gains tax event, immediately reducing the capital available to compound in the new position. The new investment must not only match the performance of the exited position; it must match it with a starting capital base that is smaller by the tax paid on the exit. This is a substantial hurdle—one that, for positions with significant unrealised gains, makes the mathematics of interruption particularly unfavourable. The investor who factors in the tax cost of exiting a compounding position will find that many apparently attractive opportunities do not clear the bar when this cost is properly accounted for.
The practical discipline is to establish a high hurdle rate for any decision to interrupt an ongoing compounding position. The question is not "is this new opportunity attractive?" but "is this new opportunity sufficiently superior to my current holdings, after transaction costs, taxes, and the interruption of existing compounding, to justify the exchange?" Phrased this way, the decision is much harder to answer affirmatively—which is, in most cases, the appropriate outcome.