How to Avoid the Sung Cost Trap
If you ever held onto a position far longer than you should, you have been guilty of this fallacy. The sunk cost fallacy is the tendency to refuse to stop an action because you've already sacrificed a good amount of money and or time into it. Sometimes it's best to just cut your loss than to further waste money and time on a project or trade. Some costs should not be a reason for you to stay in a trade. If you wouldn't open your trade at its current price level, you should not stay in it. Regardless of how much you already have lost. One way of combating the sunk cost fallacy is by having a clear trade plan with clearly defined exit points before you enter a trade. We have now covered a wide variety of different cognitive biases that can dramatically impact your trading and decision making in general. Let me now cover briefly look at how you can avoid these biases. First and foremost, it is already a good step in the right direction to be aware of that these biases exist. But sadly, simply being aware isn't enough to completely avoid them. In fact it is almost impossible to fully eliminate these biases from your life, since they are so deep ingrained in your human psychology. That said you can definitely do things that can reduce the frequency of them and thereby improve the quality of your decisions. One thing that can dramatically increase the likelihood of using these cognitive biases, is trying to make a decision under time pressure. So avoiding time pressure is another step in the right direction. One way of avoiding time pressure in trading, is by preparing beforehand. Instead of trying to improvise and rely on your intuition always have a clear trade plan before you open a trade. The trade plan should have all the information you need to mechanically carry out your entire trade. Besides a trade plan, a good trade journal is another way for you to improve upon your decision making and trading. Otherwise try to actively monitor yourself for these cognitive biases. Especially in situations where the likelihood of a bias is high, step back and rethink the entire situation from another perspective. Furthermore, avoid making important decisions when you're in a bad mood or not fully focused due to a lack of sleep. For instance if you are interested in learning more about this topic I highly recommend checking out Daniel Kahneman's book called “Thinking fast and slow”.
