Why sunk cost fallacy matters
It can lead investors to add to weak positions, retain failing managers, or fund projects after the original thesis has broken.
How it is applied
Decision-makers exclude unrecoverable costs, update forecasts, compare alternatives, use stop criteria, and assign independent review.
Portfolio example
A fund provides more capital to a failing project mainly because it has already invested heavily.
How to interpret it
The correct question is whether incremental expected value is attractive today. Prior cost matters only if it changes future cash flows or information.
Limitations and common misconceptions
Persistence can be rational when turnaround value exists. Mechanical abandonment can destroy options and relationships.
Sources and further reading
- The Behavioral Biases of IndividualsCFA Institute
- Behavioral Patterns of U.S. InvestorsU.S. Securities and Exchange Commission