Loss Chasing, or what happens when we lose

Jun 8, 2021

When we lose something valuable, we have an automatic reaction to want to undo the loss. Whether it be money, love, favorite shirt, or pet, we have a knee-jerk reaction to avoiding the pain.

What we generally don’t do is accept our new lower account balance, single status, wardrobe gap, or now dogless doghouse — we instinctively try to desperately avoid the pain with subsequent action. We buy more, or other, super-risky stock, propose marriage, light up a shopping spree, or visit the animal shelter for a replacement hound. This is called “loss chasing” and even though it feels good in the short term it generally hurts in the long term.

Loss chasing is literally that — chasing something that has already been lost — and nowhere is it as clear and measurable as it is in financial trading. Research shows that people will not sell losing positions to avoid a “realized loss” and will hold it instead (and show “paper loss”). Also, and this can be a portfolio killer, people will take on more risk when they’re in a losing position to make up for the loss, which usually doesn’t end well.

The antidote for smart investors? First, accept the new reality without resistance or denial (“take the hit”). Second, make the most of the remaining assets you have. Third, calmly re-assess your assumptions and beliefs about the investment, and whatever you do, don’t throw good money after bad if the investment logic no longer holds.

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