Post by
AlwaysLong683 on Oct 05, 2022 9:31pm
Loss Aversion Risk
I think many XBC shareholders who either kept buying more and more shares as the stock continued to tumble or simply hung on to the shares they originally purchased had hoping the share price would recover may have unwittingly fallen into the "Loss Aversion' trap.
Loss Aversion is the psychological resistence to admitting you made a mistake investing in say, a given stock, selling your shares, accepting the loss, and moving on to other stocks.
The theory is based on the idea that, when investing in securities, most investors hate the feeling of losing money (or "locking in a loss") more than they enjoy making money on their investment, so if they pick a loser stock, they are very resistent to the idea that it's time to admit you erred, crystalize your capital loss, and count it as a lesson learned as you use the proceeds from the sale to look for your next investment.
One common practice when loss aversion is top of mind is to "buy more shares and average down". Another is to cling to the concept that "it's not a loss until you sell". For example, if you bought a stock at say 3.00 a share and it's now 1.50, you may convince yourself it's now an even greater bargain than when you originally bought it instead doing an unbiased re-assessment the company, its management, fiscal status, etc. to see if it's worth pouring more money into or even sticking around at all.
I learned the above lesson years ago (before I even stumbled upon the "Loss Aversion" theory) when I took a sizeable hit on a few names that I refused to acknowledge were not good moves. I did eventually sell them, but at a much greater loss than when I first had thoughts that hinted at the idea that the companies had (or developed) flaws that I should just acknowledge as the truth (Anyone remember Concordia Healthcare....?).
In the past two years however, when I recognize a mistake, I sell right away, take the loss, and move on. For example, I took a small loss on over a year ago on a few small cap tech stocks. Of course, the Canadian small cap tech sector as a whole has taken a beating over the past year and a half, so part of it was luck, but the companies in which I invested have taken more of a beating / loss than most, so I saved myself a lot of money by just admitting these were bad moves instead of trying to convince / deceive myself into believing that no, just stick with it, don't "buy high and sell low", they will recover soon, etc. etc.
Now, of course, if you honestly re-assess your original purchase decision and no red flags emerge, you would in all likelihood stick with the company if your original decision-making was sound and nothing has changed in the interim. That makes sense. The key word however, is "honestly", as in "unbiased".
Obviously everyone must make their own decisions about how they wish to invest their money, and some are bigger risk-takers than others, or perhaps are not bothered by larger losses and are willing to hang on to their shares come hell or high water, so to each his/her own.....the above is just food for thought......