Have you heard of the sunk cost fallacy?
Let me remind you…
Whenever you invest money in something, there’s a tendency to feel obligated to follow through on whatever you’re invested in.
For example, you and your parents invest $40,000 over 4 years toward your accounting degree. After you graduate and go work for an accounting firm for one year, you decide you hate accounting and want to change careers. At this moment, most people feel obligated to stick it out in accounting because they’ve already sunk $40K and 4 years of their time. This is the sunk cost fallacy.
It’s a big problem for start-ups that invest money in creating new products and realize right before launching a competitor has already beat them to the punch. When this happens, the start-up will typically try and salvage their sunk costs by marketing the heck out of their new product — doubling down rather than going back to the drawing board. Seth Godin talks about this problem here.
The reason I want to talk to you today about sunk costs is because I just finished reading Nat Eliason’s latest article: Option not Obligation: How to Beat the Sunk Cost Fallacy.
It’s a good read that will make you feel uncomfortable — in a good way. Which is maybe why I wrestled with Nat’s advice at first.
Nat recommends that any time you sink money into something, rather than look at your investment as an obligation, reframe it as an option.
Bought movie tickets but don’t really want to go anymore? Option, not obligation.
Purchased a pair of shoes but don’t really like them? Don’t wear them because you feel obligated to, that money’s gone. You only have the option to wear them.
Been friends with someone for 5 years and they’re turning into a miserable drain on your energy? You have the option to continue that relationship, but not the obligation.
That last one, about toxic relationships, is extremely important to realize. The others, however, seem reckless and impulsive to me. I’m sure Nat’s right but let’s explore.
If you buy something, logically it makes sense that you don’t have to use whatever you bought. But it also seems like a waste and a dangerous precedent to set by always reframing your impulse purchases as options and not obligations.
I haven’t talked to Nat about this but I think he understands this concern. In his conclusion he writes:
As you get in the habit of identifying when you feel obligated, it will become easier to weed those impulses out and do what you truly want. As you do, you’ll start using your time, money, and emotional energy significantly better, no longer being swayed by past choices, and being less tempted to overinvest in past decisions.
This is a good start to beating the sunk cost fallacy but I think we can do better.
It’s not enough to simply reframe your sunk costs as options. We also need to address the real problem which is our bad decisions.
As Nat said, once you get in the habit of identifying when you feel obligated, it will become easier to weed out those impulses. The problem I see with this approach is you’re heavily relying on willpower.
Plus, humans have a bad habit of forgetting our mistakes — we’re much better at remembering wins.
What I suggest you do is start tracking your investments.
In addition to reframing sunk costs as options, Peter Drucker’s famous quote, “What gets measured, gets managed,” should be part of your new credo.
You can buy a pair of shoes and not wear them because you don’t like them — that’s your right (you have the option), but keep track of how many times you make purchases like this.
If you’re doing it more than you should, then you probably need to get better at making decisions. This starts with seeing your successes and failures on paper. Once you have an idea of your decision-making ability then you can work toward asking better questions, collecting more relevant data before you make your decisions.
You’re only doing yourself a disservice by trying to make yourself feel better for your bad choices. Part of living the good life is taking pride in what you do. If you work hard for your money, don’t throw it away making impulse decisions and reframing your bad choices after the fact.
Beating the sunk cost fallacy starts by realizing you have options and it ends with you learning how to make better decisions.
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