So all of these methods converge when the position is fully closed out. They are actually designed mostly for regular businesses that are buying and selling items, but it works for anything.

You always end up making the same amount of money, but when you need to figure out profit, it is hard to do before you have sold all of your stock! These systems provide different ways of answering the question: "What is my profit _so far_?). Summing up all of the costs will give you the cost so far, but if you are half way through selling all of your items, it is not that useful, as you have no way of telling if you are making a profit or not on your sales!

FIFO vs LIFO can matter depending on what you are trying to "show". I am not an accountant, but imagine if you bought a bunch of stock really cheap in the first half of the year, and in the second half bought a bunch more stock at a higher price. If you use FIFO, you will realise a big profit initially, followed by a smaller profit or loss in the second half when you start to use up your more expensive stock. With FIFO, you do the opposite (big loss up front), and with Average Cost it's more spread out.

If you have mid year report coming up, and you want to look good, you might be tempted to use FIFO, in order to show that you made a higher profit initially. I'm guessing real accountants see right through this though!

So basically to simplify all this (more for myself), looking at total cost column tells you all costs and all "revenue" (money received), but considering you're only partially selling your inventory the total summed cost column is skewed if you thought of it as profit, as it includes unsold inventory, and that's why you must use an inventory method such that you match exact quantity for buys and sells. Makes sense!

Ooooh, great point. Thank you, that makes perfect sense.

So that's an interesting point that I never actually realized (pun intended 1000%)... is that FIFO/LIFO doesn't actually change your profit amount when the position is fully closed, it only matters, as you said, when "showing" that profit, ie... if you are trading over multiple years and you need to do your taxes, the tax years up front might show more profit, but less in later years, or vice versa, but over all the years the profit would be the same. That's obvious in retrospect, and I can't believe I didn't get that before. Thanks!

I feel like I should point out here that there is also SpecID (Specific Share Identification), which is another way of identifying which of your inventory/lots you want to sell.

SpecID can come in very useful if you want to maximize control of the amount of capital gain/loss that you take on when partially selling your position after dollar cost averaging or otherwise buying into it over many purchases.

For example, assume you've been dollar cost averaging into a security over the course of 5 years, and now want to start selling. You can use SpecID to sell only the specific lots that you bought between 1 and 2 years ago, so that you get taxed at long term gain rates, but otherwise realize the least amount of gains of all your lots (assuming the security has been appreciating at a stable rate). Neither FIFO nor LIFO would allow you to do that: FIFO would grab the oldest, most appreciated lots, while LIFO would grab the lots that have not yet aged into LT gain.

That's so funny you mentioned this because I asked one time on a forum if something like that were possible and got absolutely roasted for "such a stupid question"... I'm super glad my thinking was on the right track. Thanks for the explanation. What brokers allow you to do that, btw?

Thanks for pointing this out. As mentioned I am not an accountant, but the specific stock method did come up also. I decided to skip it in the interest of brevity (article was already getting way too big). However this is an interesting insight, thank you.

No problem, when I first came across it I also didn't quite understand why it existed.