The COSTLIEST Mistake You'll Ever Make (DON'T DO THIS!)

have you ever made a really big mistake financially i'm not talking about something like buying the wrong ingredients for dinner one night or missing the deadline on a small bill and racking up a few extra dollars in interest in late fee charges as a result i'm talking about truly big mistakes the ones that set you back several hundred or even several thousand dollars think buying a used car as is from a private party that ends up needing some expensive repairs a few weeks later or buying a home or investment at the peak of its value before it experiences a crash if you've ever made this type of mistake financially you know how much it sucks it may very well be the costliest financial mistake you've made to that point in your life but i'd argue that as rough as those mistakes can be and they can be painfully brutal at times they aren't the costliest mistake that we can make don't get me wrong buying a car that requires expensive repairs shortly thereafter can drain much if not all of our savings and that sucks but once the vehicle is fixed and in fine working order again theoretically the worst is over we can slowly start to rebuild our lost savings and start making financial progress again it sucks but it doesn't have to be backbreaking no the costliest mistake that we can make is in how we respond to those prior mistakes let's talk about what is arguably the most insidious quirk of our psychological makeup the fallacy of sunk costs but before we get going be sure to like this video if you haven't already as it really does help out the channel a lot and subscribe with notifications on for more money related videos like this one every single week and if you want to further support this channel you can check out some of the links i've left in the description below which includes a link to the investing platform m1 finance get started investing for free today so real quick for those who don't know what is the sunk cost fallacy well to put it simply a sunk cost is any cost be it in the form of money time energy or some other resource that has already been paid and can no longer be recovered so from a monetary standpoint buying the used car from a private party as is will generally be considered a sunk cost as it's typically pretty difficult to get the money you paid for that car back after you've bought it however if you loan someone money that is generally not considered a sunk cost unless something happens to ensure that you'll never get that money back in the future a fallacy is a mistaken belief often built on an unsound argument a sunk cost fallacy then is when we allow these spent and unrecoverable money time energy or other resources to influence our decision making going forward this usually comes in the form of us being more reluctant to abandon the item or change courses on a plan even when a more objective rational assessment would suggest that we're better off doing so simply because we've already spent so much money time energy or resources on the current plan some examples of the sunk cost fallacy include holding on to investments that have lost money in order to avoid taking a loss going on a vacation or to an amusement park concert or other event even though you're not really invested in it anymore simply because you or someone else has already bought the non-refundable tickets for it so the logic is that you might as well try and get your money's worth out of it keeping expensive policies such as insurance or annuity products clothing or other items that you don't really need or could at least switch out for a more affordable option simply because you've already spent so much money on them in the past keeping homes or dud rental properties in the hopes that you'll eventually break even on them when the values appreciate or tenants return granted being too over leveraged in this situation can sort of force your hand when making this decision to stay but that's not always the reason that people stick with them or the buffet effect where you end up eating more food than you realistically should simply to get your money's worth i know i've fallen for that one a few times there are obviously many other possible situations where the sunk cost fallacy can rear its ugly head but i think you get the idea basically if we're trying to rationalize our decisions with some variant of the get my money's worth argument we're probably dealing with the sunk cost fallacy the next question to ask is why do we fall for the sunk cost fallacy when it's so obviously irrational and is there anything we can do to not fall for it in the future to answer the first question we have to look toward our own psychology and in doing so we come up with a few possible answers which all tend to follow a similar theme we fall for the sunk cost fallacy because we want to convince ourselves that we made a good and or smart decision or at least we want to avoid putting ourselves in a position where we have to admit to having failed or made a bad or dumb decision so we find ways to rationalize our choices thus allowing us to better protect our self-esteem one possible explanation as to why we fall for the sun cost fallacy is that most people are loss averse to some degree loss aversion is one of our many cognitive biases which basically states that we tend to feel losses more strongly than equivalent gains and as a result we tend to prefer taking actions that'll lower the chances of us experiencing loss as opposed to actions that'll give us the best chance to realize a gain although being equal in other words we often tend to play not to lose as opposed to play to win at least when it comes to larger decisions this is a phenomenon that often comes up in the investing world for instance if we buy a stock for 100 a share and a few months later it's fallen to 70 a share we may feel reluctant to sell it and realize the loss even when we feel there are better investments out there sometimes the loss aversion appears before that point many people will hold more conservative portfolios consisting mainly of like bonds and cash and other traditionally stable investments even when a more rational approach in their particular situation would have them take on more risk assets like stocks real estates or a business venture another common example that illustrates loss aversion involves flipping a coin if it comes up heads you'll win some amount of money say a hundred dollars but if it comes up tails you'll lose the same amount of money would you agree to play the game and flip the coin technically from a probability standpoint your expected gain or loss from flipping the coin is zero dollars there's a fifty percent chance you'll gain a hundred and a fifty percent chance you'll lose a hundred but most of us don't make decisions that way in other words most of us are at least somewhat loss averse and need the expected gain to outweigh the expected loss to some degree before taking on the risk of losing money because well losing money sucks no matter how it comes about a second possible explanation for why we tend to fall for the sunk cost fallacy is that we don't want to appear wasteful to ourselves or to others if we've spent a lot of time money or energy on something and then abandon it before we've reaped the rewards we were hoping for it can look and feel pretty bad and also raise questions from others that we'd rather not have to answer so we find ways to rationalize sticking with the status quo at least for a little while longer and the third possible explanation is plan continuation bias or our desire to stick with the current plan in spite of changing conditions we often do this because we don't want to admit that we've made a bad choice or failed in some way so we convince ourselves to keep going again what all these explanations have in common is that they all essentially come down to us protecting our own self-esteem or image motivated reasoning is a thing it's a lot easier to convince ourselves to keep following a path that might otherwise appear sub-optimal if deviating from that path could lead us to looking or feeling bad about ourselves or our decisions with that being said is there a way to avoid falling prey to the sunk cost fallacy well yes in fact there are a couple of strategies that you can use to avoid or at least minimize the damage of the sunk cost fallacy the first thing as always is to just recognize that this is something that can influence our decision making from time to time particularly in things that we're emotionally invested in it may not always be the biggest influencer and obviously it isn't ever present in every single decision but by analyzing why we're making the decisions we are we can help to uncover this fallacy and then take steps to correct for it when it's there another technique is to always keep the big picture in mind it's easy to get caught up in the mistakes that we make especially when they're big ones but it's also important to recognize that more often than not the individual mistakes aren't backbreaking even if they might seem like it at the time with enough perseverance planning and patience we can usually recover from the mistakes we make finally be sure to always consider the costs of inaction sticking to the plan may be a good idea in a lot of situations but the opportunity cost of sticking to a plan that isn't working can be huge so ask yourself if you would be better off by just ripping the band-aid off now and pivoting to a new and hopefully more successful approach instead of hanging on to an investment or plan whose outlook has dimmed and that basically leads me into the reason that this mistake can be so costly the opportunity costs associated with sticking with a bad approach can easily grow to dwarf the costs of the initial mistake over time if we pick a losing investment that sucks but it happens to every investor at some point it doesn't have to define you or your financial future when things can get really bad is when we keep our money in the losing investment in the hopes for a comeback that may or may not actually materialize when that money could otherwise have been withdrawn i.e just ripping that band-aid off and admitting the initial mistake and put into another investment that's more likely to pay off for us down the road alternatively if we buy an unreliable car that also sucks but again we don't have to let that mistake and the opportunity costs associated with it compound by influencing our decision making about how to proceed going forward instead we can get it fixed up as best as we can and either use it or sell it or if it's just a junker then dump it make a mental note on why things went wrong and what can be learned from the experience such as having a mechanic inspect it before agreeing to buy next time and move on to something a little more reliable because at the end of the day the thing that makes this mistake one of if not the costliest we can make is that by its very nature it provides us an incentive to delay making the right decision and over the long term no matter how costly the initial blunder is and again some of them can be quite costly it's often the inability or unwillingness to correct things that causes the most overall damage to our financial picture when all is said and done but that'll do it for me today once again if you enjoyed this video be sure to smash that like button if you haven't already subscribe and hit that bell next to my name so you'll be notified of all my future uploads i generally upload every single monday and if you have a friend that would be interested in this kind of content be sure to share it with them let's really get this information out there and start our own financial revolution

Channel: Next Level Life

Views: 11,415

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Id: CIbiFNfmpss

Length: 9min 59sec (599 seconds)

Published: Mon Jun 27 2022