Sunk Cost Fallacy

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Why Smart People Hold onto Things that Don’t Serve Them

Sunk cost fallacy is the name given to the bizarre human behaviour of holding onto things that don’t serve us and letting go of the things that do.

Us humans do some pretty dim things when it comes to money and our financial well-being. 

I often joke that one of the key things I learned on my road to financial freedom was how to protect my money from me. It’s only a semi-joke because it’s true.

 The study of behaviour economics is pretty much the study of trying to understand why we do such stupid things when it comes to money. 

There are people out there that spend their entire lives researching these bizarre phenomena, trying to understand why us – supposedly logical, smart, always looking out for our own interest humans – do so many silly things. 

The reason is simple. Us humans are driven by emotions. 

We’re driven by unconscious triggers and reactions.  

It’s important for us to understand this because if we think that we’re making decisions consciously with our logical mind, if we believe our choices are always going to be in our best interest, we’re going to find ourselves pretty damn disappointed when we look back on some of our behaviours and the repercussions thereof. 

They say forewarned is forearmed.

When we understand (and accept) some of the economically dysfunctional natural behaviours we have, we can be forearmed, and put things in place to protect our money, protect our wealth, protect our investments, from ourselves. 

This video is about one of the most disastrous economically dysfunctional behaviors we can indulge in which can sabotage our financial wellbeing and this is the fallacy of sunk cost. 

So, what the hell is sunk cost, why should you be aware of it and what can you do about it? 

Sunk cost is where we look at the past and consider the investment of time, money, and energy we have put into something and hold onto the thing in the hope we will get some return on it in the future even when evidence is telling us it sucks, it’s dead, it’s rotten and we need to get rid of it. 

Simply put, sunk costs are payments or investments that happened in the past which can never be recovered. 

The trip-wire into the seduction of the sunk cost fallacy is often the other favorite of behavioural economists – loss aversion (read this article on loss aversion and why it’s also dangerous for your wealth).

Behavioral economist Dan Ariely in his book, Predictably Irrational. He writes that when factoring the costs of any exchange, you tend to focus more on what you may lose in the bargain than on what you stand to gain. The “pain of paying,” as he puts it, arises whenever you must give up anything you own. The precise amount doesn’t matter at first. You’ll feel the pain no matter what price you must pay, and it will influence your decisions and behaviors.

Another set of behavioural economists, Hal Arkes and Catehrine Blumer, created an experiment in 1985 which demonstrated our tendency to go fuzzy when sunk costs come along. They asked subjects to assume they had spent $100 on a ticket for a ski trip in France, but soon after found a better ski trip in Switzerland for $50 and bought a ticket for this trip too. They then asked the people in the study to imagine they learned the two trips overlapped and the tickets couldn’t be refunded or resold. Which one do you think they chose, the $100 good vacation, or the $50 great one?

Over half of the people in the study went with the more expensive trip. It may not have promised to be as fun, but the loss seemed greater. 

That’s the sunk cost fallacy at work, because the money is gone no matter what. You can’t get it back. The sunk cost fallacy prevents you from realising the best choice is to do whatever promises the better experience in the future, not that which negates the feeling of loss in the past.

Let’s look at some more examples. Maybe you’ve got a business and you spent money buying the business or developing and growing it. But the reality is right now there is no market for that business, it’s going backwards. At what point do you cut your losses and move forward so you can use your time, money, and your energy, to create something that is going to work for you? 

A non money example of sunk cost fallacy is when we order too much food and then overeat just to “get our money’s worth”.

Behavioural economics shows that people are more likely to hold on to something that they’ve sunk a lot of investment into even when it isn’t performing well and in fact they’re more likely to hold on to their poor performers than their great performers. 

People are more likely to pilfer or feed off their great investments, bleed their great businesses, and fund their dodgy one just because they’ve got this perception that if they get rid of the dodgy ones, only then do they lose. 

This is so important to understand that whenever you’re evaluating anything. Be it your investments, a business, your relationships, your habits, you always have to take a baseline now

You must accept the past is history.

It doesn’t matter what happened in the past, how much money and time and energy has gone into something. 

The only thing that matters is what is happening – with that investment, that relationship, that habit, that eating regime, that exercise regime, that business activity – NOW and what its FUTURE potential holds? 

Over and over again people tell me “Ann, I’ve been investing in this dodgy, crappy,  TV dinner investment product that was sold to me by some financial advisor. I’ve got no idea what’s in it. I can’t see what the fees are. When I try and find out what it’s invested in, I just get the runaround. But I’ve been investing in this for the last 20 years so I’m just going to hold onto it.”

This is a sunk cost fallacy doing its terrible work. 

The past no longer matters. 

The only thing that matters is now and your future. 

The sunk in the sunk cost means it’s already gone. You can’t recover the past but you can make decisions now about your future and you can ask yourself…

“Does holding onto this investment or putting more money into it even when it’s under-performing, going to get me to where I want to go? Or do I need to bite the bullet, accepting that the loss has already happened and liberate the money still available in the investment and get it working in a good quality asset where I can see the fees, where I can see what its performance, instead? 

Not letting go of those things that aren’t serving us, just because there’s been historical investment of time, energy, money, is devastating to our wellbeing.

Do you have a business that you’re holding onto that it’s time for you to let it go? 

Is there a relationship in your life you need to move on from?

Are there investments you need to liberate?

It’s a great practise to regularly look at all the areas of our lives with a clean slate perspective.

If you were to make a choice now to invest in this thing or to spend time on that thing or to stay in this relationship or whatever it is that you’re reviewing and if there was no historical baggage, would you make be making this choice? 

We then have to have the courage to make that clean slate choice because when we hold onto stuff based on sunk cost fallacy, it’s going to be absolutely devastating to our future because…

Your past created where you are now, what you’re doing now is going to create your future. 

Another aspect of sunk cost fallacy is where people hold onto physical things that are no longer serving them. 

They might end up having a storage unit or the attic or the garage full of furniture and bits and pieces that they’re not using. 

The think, “I spent money on it, so it must have value” . NO!!!  The money is gone. 

There is value only if you use something. If you’re not using it, let it go. Let go of the stuff sunk cost is causing you to hold onto. 

In the comments below I’d love to know:

  • Have you discovered an area of your life where sunk cost fallacy is causing you to hold onto something that isn’t serving you?
  • If so, what is it and what are you going to do to let it go so you can move forward? 

Please share in as much detail as you can because hundreds of people come here every week and read those comments and your sharing might very well be the thing that is an a-ha for somebody else. 

This is about abundance and community and being able to have conversations about money in an open, empowered way that liberates us because we let go of the ignorance, or the shame, or the guilt, and go, “oh, wow, it just is, now I’m free to make new empowering choices going forward”

I certainly hope with the insights in this article can help you let go of any sunk cost fallacies that have been holding you back and move forward with all of your resources – your time, your energy, and your money – working for you to live your greatest life possible.

Big love

Ann

 

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6 Comments

  • Cecil Biggs says:

    My wife and I bought an apartment in Stellenbosch but we are ignorant in how to invest our rental income and after 2yrs have nothing to show for it.We need serious advice or intervention if we want to achieve the goal we set ourselves.

  • David says:

    Wow, thanks Ann, your reference to an exercise regime made me realise it’s not just about holding onto clutter, which I considered myself pretty good at avoiding. Years ago when I was a student and had the time over weekends and in the evenings I signed up for a fun and exciting marshal arts class. I learned a lot and I value what the time and money spent. But now, with a small child and life in a different place, my evenings and weekends are much more valuable for other priorities. I’ve wrung what I can from the classes and I’ve plateaued. It’s time to be grateful for the experience I have gained, but to move on.

  • Anil Naran says:

    Hi
    Been keeping a property for 14 Years , its been a lemon from day 1. Decided to cut my loses and sell it.

  • jill says:

    Ah yes… how timely! The lovely cottage with so much potential which impulse begs to have more money thrown at to extend etc etc. and would make total sense if it’s worth was on the up or I wanted to live there longterm… Anyway… have just accepted an offer for… penny for penny almost the same as I paid 11 years back. Ouch! Smarting, but the line drawn in the sand will enable leap forward. Perhaps not for mankind but a giant one for me! Guess that counts?!!

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