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Health & Fitness

That Sinking Feeling

Question – how many of you are familiar with the term “sunk costs?” I would not be terribly surprised if not everyone knew what that phrase meant – not exactly something that you hear every day. While the terminology might be unfamiliar, however, the concept and the impact that it has on people’s lives is probably familiar to everyone. Let’s look at a quick example that I’m sure everyone can relate to in order to illustrate the point.

Your brother/sister/cousin gets two tickets to a new movie that has been hyped up to be really, really good. Both of you are excited to see it, look forward to it all day, and finally are in the theatre that night – popcorn and 3-D glasses to boot. Within the first 15-20 minutes, however, you both begin to regret coming to the see the movie: it just isn’t that good. But, instead of doing the “logical” thing and leaving, you both sit there for the entire 2+ hours. Why? Because you have already spent the money and invested the time, and can’t “go back” now; you have “put too much into it.”

Whether it be a bad movie, sub-par meal, or dates that have not gone as well as we had hoped, I think we have all experienced something like the scenario outlined above. We feel obligated to see something through because we already invested a significant amount of time and/or money into it.

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That really doesn’t make any sense. Sitting through a subpar performance, or eating a subpar meal does not improve your quality of life – why should your investments be any different?

If you do your due diligence, put the time in, make the investment, and it turns out to be a lemon why would you hold onto it? It’s the same concept that makes people sit in the movie theatre even after they have decided the movie is awful – sunk costs. Psychologically, we do not want to “waste” the time, money, and effort that we have already invested. All that means, however, is that we are stuck hanging on to investments that either are stagnant or, in the worst case, are losing us money. Even if you think it may “turn around,” you can sell now and buy the investment back at a lower cost basis.

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Doesn’t make a lot of sense to simply hold on to it, does it?

While it is oftentimes a very difficult thing to do, it is sometimes necessary to “write off” the time and money that has been devoted to the “lemon” investment: holding onto stagnant and/or money losing investments pulls down the rest of your portfolio, and diminishes the overall return you are earning.

Throw out the lemons, and don’t like sunk costs weight you and your investment returns down.

http://www.investopedia.com/terms/s/sunkcost.asp

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