What is loss aversion?
Loss aversion means giving a loss more weight than a gain of the same size. Losing a Tk 500 note from your pocket feels worse than finding Tk 500 on the street feels good. Same amount of money, not the same feeling.
The idea comes from the “prospect theory” of psychologists Daniel Kahneman and Amos Tversky, published in 1979. They showed that people judge outcomes not by their total wealth but as gains or losses from a reference point (such as the price they paid), and feel the loss side more sharply.
Say Mr Karim owns two shares: one is up 20%, the other down 20%. He needs money for his daughter’s admission. Like most people, he sells the winner, because “taking” a profit feels good, while selling the loser would make the loss “real”. He never asks which company has the better future. The numbers are only an example.
Why it matters to an investor
- Clinging to losing shares: to avoid the pain of admitting a loss, people stay stuck for years even in companies that have become weak.
- Selling winners too early: dropping even good businesses for fear that a small profit will “slip away”.
- Panic-selling in a fall: when markets drop, the pain of losses is so sharp that the urge is to forget the plan and sell everything.
- Taking big risks to win back a loss: “I must get my money back somehow” pushes people into risks they would never normally take.
How much heavier losses weigh
Researchers measure this imbalance between losses and gains with a number called the loss aversion coefficient. A large meta-analysis published in 2024, combining 607 estimates from 150 papers, found an average of about 1.96. In plain words, on average a loss feels about twice as heavy as a gain of the same size.
This is an average; it varies between people and situations. And fearing losses is not always bad. The trouble starts when that fear overrides cool-headed calculation.
Sell the winners, keep the losers
The best-known form of loss aversion is called the “disposition effect”. Economist Terrance Odean analysed the trades in 10,000 accounts at a large brokerage and showed that investors are much keener to sell shares that are up than shares that are down. And how those shares performed afterwards did not justify the behaviour.
- Look at the whole portfolio, not each share on its own. A loss on one share is not the same as the whole plan failing.
- Write down when you buy what would make you sell, such as “if the company makes losses year after year” or “if the reason I bought no longer holds”.
- If you are investing for a long-term goal, check prices less often. The more often you look, the more small losses you will see.
Worked example
- Say someone offers you this: a coin will be tossed. Heads, you win Tk 1,500; tails, you pay Tk 1,000.
- On average: half the time +1,500, half the time −1,000. Expected result = (1,500 − 1,000) ÷ 2 = +Tk 250.
- But if a loss feels about twice as heavy as a gain, losing Tk 1,000 feels like roughly Tk 2,000 in your head, which outweighs the pleasure of winning Tk 1,500.
Result: even though it pays on average, many people turn the bet down. This is not advice to gamble; the point is that fear of loss makes us avoid even choices that add up on paper. In investing, this can show up as excessive caution. The numbers are only an example.
Common mistakes
- Unable to accept a loss, holding a weak company’s shares just waiting for them to “get back to my price”.
- Selling as soon as a profit appears, without judging the company’s future.
- Taking on more risk, or borrowing to invest, to make up for an earlier loss quickly.
- Out of fear of any ups and downs, keeping even long-term money where it cannot keep up with inflation.
Losses naturally feel about twice as heavy as gains: so decide whether to sell or hold by the company’s future, not by how the gain or loss feels.