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Learning From Financial Mistakes

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Have you ever noticed how incredibly hard it is to pull the plug on a bad investment? While this may be true for most people, I think we tightwads of the world may have an extra tough time letting go. Given our aversion to wasting anything, it can be extremely difficult to admit when we’ve done it.

My first insight into how tightly I could chain myself to a bad investment came when I was still just a kid. My parents had insisted I play an instrument. I’d chosen the clarinet, and I had to practice for 30 minutes a day. After years of this daily torture, it was clear to everyone involved that I would never be a clarinet virtuoso. Even the family dog howled in agony when I played. My parents finally relented and told me I could quit. I, on the other hand, gritted my teeth and kept going for another three years. Not because I liked it (I hated it, actually) but because I had already put in so much time that I couldn’t bear to stop.

Behavioral economists will tell you that this is a known and extremely common tendency. (Too bad for my dog that nobody explained this to me in junior high.) For example, Gary Belsky and Thomas Gilovich address this mental pitfall, among many others, in their wonderfully insightful book Why Smart People Make Big Money Mistakes. They refer to it as the “sunk cost fallacy.”

According to Belsky and Gilovich, “This tendency is harmful for the simple reason that past mistakes shouldn’t lead you to make future ones. The past is past, and what matters is what is likely to happen from now on. So a person who turns down an offer for a house because the bid is lower than the original purchase price may be following one blunder (paying too much in the first place) with another (not getting out while the getting is good).”

Below are some places where you may be falling prey to the sunk cost fallacy.

If after taking stock of your investments in both time and money you discover lots of places where you’re throwing good resources after bad, don’t be too hard on yourself. If your old dog died years ago, your new one will still thank you for ceasing to play the clarinet. And as Belsky and Gilovich point out, sometimes the sunk cost fallacy actually works for us. One example they cite is gym memberships. If your aversion to losing your original investment provides the motivation you need to pry yourself off the couch, then that’s a good thing. At the end of the day, the more we can learn about our own spending biases, the more skillfully we can use them to help us prosper.

This article originally appeared on The Dollar Stretcher.com.

This article by Helen Young first appeared on The Dollar Stretcher and was distributed by the Personal Finance Syndication Network.

The post Learning From Financial Mistakes appeared first on Personal Finance Syndication Network.