Why We Feel the Pain of Loss More Than the Joy of Gains

99.6%. A number I will forever hate. A number that will haunt the dreams of many in the city of Atlanta. 99.6% was ESPN’s official “win probability” for the Atlanta Falcons over the New England Patriots in Super Bowl 51. In the 4th quarter this statistic scrolls across the bottom of the screen and will be burned into my memory until the callous beings that control the fate of sports allow this city reprieve. And no, Atlanta United winning the MLS Cup DOESN’T COUNT! 

The reason this loss was so totally debilitating to Falcons fans, was the expectation that we had the game in hand. Atlanta was going to be a city of champions for the first time since 1996, and I would no longer have to listen to my Saints friends joke about our lack of a Super Bowl. Instead that reality crumbled away into nothing, and it couldn’t have been worse. In fact, I would rather have been pummeled by New England right off the bat, or never even played, than to lose in such a manner. 

Have you ever been promised something, but what you actually get isn’t what you had in mind? Or had a fish on the hook but lose it just before it comes into sight? Terrible feeling, right? A large part of that is because we as humans have a difficult time coping with outcomes that don’t line up with our expectations. As it turns out, our economic behaviors are deeply ingrained. 

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There is a fantastic TED Radio Hour episode called, The Money Paradox, and one of the speakers is Laurie Santos. Dr. Santos ran Yale’s Comparative Cognition Laboratory, and one of their studies was on the economic behavior of monkeys and the relation to humans. In this study- Capuchin monkeys were given tokens as currency and an economy was set up through which they could exchange these tokens for food. The monkeys acted rationally at times (ie trading tokens for a researcher offering more food), but also displayed bouts of irrationality, just like humans. The most relevant flaw the monkeys exhibited is what behavioral finance dubs “loss aversion”. 

Loss Aversion is a cornerstone of the “Prospect Theory”, which landed Daniel Kahneman a Nobel Prize in Economics. This tells us that humans are more keenly aware of losses than gains. In the Yale study- a researcher would offer two pieces of apple for a token, but sometimes only give one. Another researcher would offer one piece of apple, but sometimes surprise with another. Despite averaging out to the same amount apple pieces, the monkeys favored the “bonus” researcher. 

We see this play out in the investing world over and over again. I learned early on in this industry that an account that went from $1M to $1.5M, and then down to $1.3M was viewed as a loss of $200K instead of a gain of $300K! That’s because just like the Falcon’s Super Bowl, there is an expectation for the portfolio to be at or above $1.5M. 

Most folks hardly notice when the market goes up over time, but they sure do pay attention when it goes down! And after enough losses, investors may throw in the towel and sell out a low level. Is that rational? No. A rational investor might look at an asset that was now cheaper and buy. Is that easy? Absolutely not! We have an emotional attachment to our hard-earned money, and the thought of losing some of it is more powerful than the potential to gain more. 

This is what makes investing so difficult. The correct decision is often the one that feels the worst. An investment that gives you a large gain feels good, and you want to add to that good feeling despite the fact that it may now be overvalued. Alternatively- an investment that has gone down feels bad and you might be tempted to sell even though it may actually be at or below it’s fair value.  

There is good news. Dr. Santos reminds us that we as humans have an incredible ability to overcome our own limitations and biases. We create, we innovate, and each generation seems to accomplish what prior ones thought impossible. So it is with investing. We have to train ourselves to do what seems counter-intuitive, or work with a professional who is able to keep short-term volatility in perspective with a longer-term goal. Keep the monkey business to a minimum! 


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