The short-term reversal anomaly, the phenomenon that stocks with relatively low returns over the past month or week earn positive abnormal returns in the following month or week, and stocks with high returns earn negative abnormal returns, is well-researched. However, the researchers hypothesize that reversal strategies require frequent trading and rebalancing in disproportionately high-cost securities, and this would lead to a situation where trading costs prevent profitable strategy execution. The results might be interpreted in a way that the abnormal returns of reversal investment strategies, which were documented in studies, create an illusion of profitable investment strategies. Still, due to the transaction costs, the strategies are not applicable, and the profitable strategies do not exist.
However, research has found that the impact of trading costs on reversal profits can largely be attributed to excessively trading in small-cap stocks. Therefore there exists a solution on how to make a reversal strategy profitable, even when the transaction costs are included, but the potential investor must modify the basic strategy. Said, the turnover of standard reversal strategies is excessively high. The solution to this problem is simple; the strategy has to be traded on stocks with a larger market capitalization. The aforementioned lead to a profitable and both economically, and statistically significant strategy, which sells past winners, and buys recent losers, but is slightly modified in terms of the size of the stocks. Moreover, the paper also presented research about European stocks and found that if the investor invests in the stocks with larger market capitalization, the reversal strategy will work. Last but not least, the ability of the reversal anomaly to survive trading costs was also studied in the paper Frazzini, Israel, and Moskowitz: Trading Costs of Asset Pricing Anomalies.

Past research speculates that the fundamental reason why does the reversal anomaly work is the investor’s overreaction to the past information and a correction of that reaction after a short time horizon. The work of Stefan Nagel in the paper Evaporating Liquidity claims that returns of short-term reversal strategies in equity markets can be interpreted as a proxy for the returns from liquidity provision and shows that reversal anomaly returns closely track the returns earned by liquidity providers.
Overall, there is a mutual consent that theoretically, reversal strategy does work. However, there is a problem with the transaction costs that make the strategy inapplicable. This paper and also the work of de Groot, Wilma, and Huij, Joop and Zhou, Weili: Another Look at Trading Costs and Short-Term Reversal Profits proved that the strategy works if the investor focuses purely on the larger stocks, what reduces the transaction costs. Moreover, research of this paper has used the Nomura cost estimates instead of the trading cost estimates resulting from the Keim and Madhavan model, because trading costs of the model are substantially lower than the Nomura cost estimates and the trading costs of Keim and Madhavan model can even be negative in many cases. Therefore, the results from the Keim and Madhavan model should be interpreted with caution and probably should not also be used.
Moreover, an additional attractive feature of the trading cost model, which was obtained from the Nomura Securities, is that it has also been calibrated using European trade data, which eases the analysis of the European stocks. Lastly, the study has found that net reversal profits are significant and positive among large-cap stocks over the most recent decade in the sample, which is characterized by the dramatically increased market liquidity. This rules out the explanation that reversals are induced by inventory imbalances by market makers and that the contrarian profits are compensation for bearing inventory risks.