Part VII in our Wealth Psychology series: Professor Dilip Soman explains why we feel so attached to funds we’ve already spent and share an idea on how you can avoid throwing good money after bad.
Mmm, the all-you-can-eat buffet, one price for an endless supply of food. After the appetizers, you are already feeling satisfied. By the time you get to desserts, you're feeling ready for the antacid. Or maybe you've driven through a raging snowstorm to watch a hockey game just because you paid $500 for those tickets. Some people might call that getting your money's worth. Behavioral economists would call it a sunk cost fallacy.
A sunk cost fallacy is any past cost that has already been paid and cannot be recovered. The money's already spent and gone. There's no reason it should affect your decisions. But our brains are wired to make financial decisions based on time, context, and the psychology of money. In this case, it's money that you've already invested in the meal or in the tickets, and you feel compelled to get the greatest return possible.
In investing, this may play out as an attachment to a certain stock. The more invested you are in something, the harder it may become to abandon it. If you've spent a lot of money on a particular investment, it might seem hard to cut your losses if it consistently performs poorly. You may end up throwing good money after bad.
When you find yourself dwelling on the price you paid for something, whether it's a buffet, hockey tickets, or a once-hot stock, you might want to ask yourself, would I buy this if this were offered to me now? If the answer is no, you might consider selling it, or you may decide to stick with the plan. But just asking the question could help you think past the sunk cost fallacy.