Selling a loss-making investment can be difficult. Many investors continue to hold on, hoping things will improve. The hesitation comes from a very human tendency of not wanting to admit defeat. When we see red numbers in our portfolio, letting go can feel like that. And, so, we sometimes end up keeping bad investments for far longer than we otherwise might.
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What is the sunk cost fallacy in investing?
The sunk cost fallacy is when past spending affects our present choices, even though the money spent cannot be recovered. In investing, this happens when investors resist selling an underperforming stock or fund only because they have already put money into it.
If sunk cost fallacy in investing is to be explained in simple terms, it would be as follows: once money is invested, it becomes a “sunk cost”. Whether we hold or sell, that money cannot be brought back. What may matter more is the future potential of the investment, rather than the amount already paid.
Also Read: Exploring Behavioural Finance and Understanding its Basics
Examples of sunk cost fallacy in investing
- An investor buys shares of a company at Rs. 200. The price falls to Rs. 80. Instead of reassessing, the investor chooses to hold on to it in the hope that it will recover – even if its performance suggests it may no longer be on a growth path.
- A mutual fund underperforms its peers and its benchmark for years. Instead of considering other available options, the investor waits for it to return to its previous performance.
In both cases, the thought process is grounded in the desire to recover losses rather than an informed decision based on adequate research and analysis.
So, why are investors holding losing stocks? It’s because they believe that they have already invested so much and are reluctant to accept it as a loss.
Examples for illustrative purposes only.
Why it happens: Loss aversion, ownership bias, and mental accounting
The sunk cost trap is deeply rooted in human psychology and is closely linked to the following behavioural biases:
- Loss aversion: The pain of loss is often felt more intensely than the joy of gain. Selling a losing investment “locks in” the loss, which may feel difficult.
- Ownership bias: Once we buy something, we become attached to it. Owning a stock or fund makes us see it as ours, even if if the rationale for holding on to it is driven more by emotion than by actual performance potential.
How to break the cycle
The key to avoiding the sunk cost fallacy is to shift focus. Instead of focusing on how much you spent, ask what the investment looks like going forward.
Some ways to reframe decisions:
- Ask: “If I had fresh money today, would I buy this stock or fund at its current price?”
- Remind yourself that the past cost is gone. Consider the opportunity cost — i.e., what else the same money could potentially earn if used differently.
- Accept that selling a losing stock is not failure. It may simply free up money for other financial priorities.
This mental shift can help when thinking about how to deal with underperforming assets. The answer lies more in their future potential rather than past numbers.
Practical tips
A few simple rules may help reduce emotional bias.
- Periodic reviews: Check your investments every 6–12 months. Use this time to reassess business fundamentals, fund performance, and broader goals.
- Exit rules: Define a personal rule such as, “If this stock underperforms the index for three years, I will consider exiting.” Rules reduce some of the emotional burden.
- Diversification: Spread investments, so that one poor performer doesn’t dominate your portfolio. This may reduce the emotional pressure of holding on.
- Seek perspective: Discussing with a qualified adviser or financial planner can provide an objective view.
By using structure, investors may be able to avoid emotional traps.
Also Read: Investing In Tomorrow’S Consumers With Bajaj Finserv Consumption Fund
Conclusion
The sunk cost trap can make us cling to bad investments because of the money already spent. However, the future outlook may be more relevant than the past. Recognising the signs of loss aversion and ownership bias is the first step to addressing this problem. Regular reviews and rule-based approaches can guide investors towards more suitable choices. Letting go may feel difficult, but it may open the door to more considered financial choices in the future.
At Bajaj Finserv AMC, we recognise that emotions are the cornerstone of investor behaviour – not just for investors but for investment professionals too. That’s why, behavioural finance is at the heart of our investment philosophy, InQuBe, which combines the Information Edge, Quantitative Edge and Behavioural Edge. By understanding, tracking and monitoring market sentiments and our own investment biases, we seek to make mindful and strategic investment decisions. Get the Behavioural edge by investing with Bajaj Finserv AMC. Read more about InQuBe here.
Mutual Fund investments are subject to market risks, read all scheme related documents carefully.
This document should not be treated as endorsement of the views/opinions or as investment advice. This document should not be construed as a research report or a recommendation to buy or sell any security. This document is for information purpose only and should not be construed as a promise on minimum returns or safeguard of capital. This document alone is not sufficient and should not be used for the development or implementation of an investment strategy. The recipient should note and understand that the information provided above may not contain all the material aspects relevant for making an investment decision. Investors are advised to consult their own investment advisor before making any investment decision in light of their risk appetite, investment goals and horizon. This information is subject to change without any prior notice.
The content herein has been prepared on the basis of publicly available information believed to be reliable. However, Bajaj Finserv Asset Management Ltd. does not guarantee the accuracy of such information, assure its completeness or warrant such information will not be changed.The tax information (if any) in this article is based on current laws and is subject to change. Please consult a tax professional or refer to the latest regulations for up-to-date information.
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