Cut Your Losses

By MP Dunleavey on Wednesday October 14, 2009
This post is about investing



rainingmp dunleaveyAt a certain point in life, you have to confront the underperforming assets—people, investments and possessions that you stubbornly (or fearfully) hold onto, even though they no longer enrich you or your bottom line.

You know: The friends who are more trouble than they're worth, the Netflix membership you never use but keep paying for, investments in your retirement account that are not being buoyed by the recovery (but you hope that crossing your fingers might be an effective investment strategy).

Economists call this blindspot the sunk cost fallacy. You rationalize a loss—the effort you put into the friendship, the money stashed in your 401k—by fantasizing that if you hold on, you'll get your money's worth.

What have researchers found? It's smarter to take the loss—then focus on how you plan to recoup. Lesson: Let go. With money and many things in life, you can't gain until you stop losing.

If you can get past the sports analogy, here's an article that illustrates how the sunk cost fallacy can saddle you with more debt than value.

Some Thoughts on the Sunk Cost Fallacy

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written by samsstuff , October 14, 2009
This can apply to many aspects in life: you don't have to stay in a position at work (friendship, relationship, monetary investment...) that is going nowhere, just because you've invested a lot of time or effort, in it. If the 'investment' is paying off little or nothing, then you've already lost it. It does no good to hang on & is generally better to 'cut your losses' & invest your time (money, friendship...) elsewhere, where the chances for return are better. We too often hang on, hoping things will get better when, past performance has shown that they won't, until we change something. Thank you for posting!
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written by MP Dunleavey , October 20, 2009
Thanks for your thoughts! I agree. That said, in hindsight, this post might have been a little confusing for people who heard the repeated advice during the recent crisis, to stand pat, and NOT ditch their investments (lest they "lock in the losses"). That was good advice, under those very unusual circumstances.

Generally speaking however, it's important to do the math--whether you're talking about Netflix, a relationship or a mutual fund. The bottom line, especially when it comes to financial issues (personal ones are a bit more murky), is that if you don't get a decent return on your investment, you need to be willing to walk away.
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