Sunk Cost Effect

The issue:

We tend to allow non-recoverable expenses influence our behavior when it would be rational to disregard this spent money since it’s no longer relevant. For example, if you’ve ever attended an event reluctantly but only because you had already paid for the ticket, you’ve experienced the influence of sunk-cost biases.

5538536 - chart in german newspaper with euro

In investing, there is an undeniable influence to stay the course on a strategy if you’ve already put a fair bit of money into it, regardless if adding additional funds makes sense or not. Abandoning that spent money instinctively produces feelings of loss biasing us to continue pursuing the course that we initiated, even if it’s throwing good money after bad.

The solution:

Savvy investors value each subsequent dollar invested into any strategy as a new dollar, however, this is easier said than done. Rather than focusing on the regret that happens when you abandoning a strategy, it can be helpful to keep your eye on the horizon, focusing instead on long-term goals and future opportunities. The short-term loss diminishes in importance, which can help to move your attention away from the spent funds and toward more profitable options. Contribute each dollar to the best investment opportunity at your disposal without being influenced by the guilt of past mistakes.

Tags: , ,

Get in touch

CIBC Wood Gundy is a division of CIBC World Markets Inc., a subsidiary of CIBC and a Member of the Canadian Investor Protection Fund and Investment Industry Regulatory Organization of Canada.

Disclaimer