How to Avoid Losing (Loss Aversion) (Video and Podcast)
Our feelings drive us to experience loss aversion, where we avoid short-term losses and often fail to take worthwhile risks, losing more in the long term. That’s the key take-away message of this episode of the Wise Decision Maker Show, which describes how to avoid losing.
Video: “How to Avoid Losing”
Podcast: “How to Avoid Losing”
Links Mentioned in Videocast and Podcast
- Here’s the article on How to Avoid Losing
- The book Never Go With Your Gut: How Pioneering Leaders Make the Best Decisions and Avoid Business Disasters is available here
- You are welcome to register for the free Wise Decision Maker Course
Transcript
Hello, everyone, and welcome to another episode of ‘The Wise Decision Maker Show”, where you improve your ability to make the wisest and most profitable decisions. Today, we’ll talk about how to avoid being a loser. All of us would like to avoid being losers – I would, you would – so let’s talk about how to do so.
Now, imagine there is a situation. You meet a kind stranger, and the person, she just gives you $45 in cash. Says, “Here you go. It’s cool. $45 cash, all fair money.” And then she says, “Here’s a coin.” It’s a quarter, fair quarter, honest quarter. You can trust it. “If you give me your $45 in cash,” she says, “I will flip this quarter. If it lands heads, I will give you $100. If it lands tails, I won’t give you anything.” So, what do you do? Do you keep the $45 in cash, or do you give it back to the stranger, your $45 in cash, and take a chance at a flip of a coin for $100 or zero? Decide. I’ll give you five seconds. Count off in 5. 5, 4, 3, 2, 1. Okay. You’re done, hopefully.
So, you’ve decided. Now, let’s think about the scenario. I’ll tell you, when I was given this scenario for the first time – I was taught this by my professor in graduate school in my PhD program – I chose the $45. It felt safe. It felt comfortable. I wanted to keep the money – taking a risk on a coin, didn’t want to do that. Most people, my professor told me, do the same thing. About 80% of the people given the scenario make the same choice. And I gave this presentation in business meetings, in associations, keynotes, and I get the same amount: 70% to 90%, depending on how risk averse or risk oriented the people are. About 80% of the people on average, with a little bit of variance, make the choice to keep the $45. It’s a sure thing. They want to keep that.
Let’s run the numbers. $45, it’s obvious, $45. You have a coin flip, so 50% chance of getting $100. Fifty percent chance of getting $100 dollars, that’s like half of a hundred dollars, so it’s the equivalent of $50. So on the face of it, there is a 5-dollar difference which is 10%. So, there is a 10% difference, the opportunity cost is this 50% chance of getting 100 dollars or you keep the $45 in cash. So already we see that there is a 5-dollar difference. It might not seem like much, and you might not want to risk it.
But here’s the rub – imagine you were offered this choice 100,000 times. 100,000 times this choice, what would be the difference? Well, if you chose 100,000 times to keep the $45 in cash, you would have $4.5 million. If you chose 100,000 times to take the odds on the coin flip you, would have the equivalent of $50 each time or $5 million. The difference there is between 4.5 million and 5 million. That’s a cool half a million, $500,000. That’s a lot of money difference.
You could see the kind of difference, the kind of impact it makes, when you think about the long term, when you think about repeating scenarios. Now, when my professor told me this, I said, “Hey, you presented this as a one-time scenario. Maybe I would have thought about it differently if you presented it as a repeating scenario.”
What the professor told me – what was really insightful that blew my mind – was that we treat each scenario that’s in front of us as a one-time scenario. We treat each scenario, each choice that we have as a coin flip, as a choice between the $45 or a coin flip for $100. We don’t think about the long term. But really, if you think from an outside perspective, from a long-term view looking at our life from the outside, it’s actually made up of 100,000 coin flips.
You know, some of us make $4.5 million during our lives, some of us make 5 million, and that 500 thousand dollars is a serious difference. It’s a 10% difference, and of course with compounding interest, each year you make a choice of 10% or more. That really adds up over a lifetime to quite a bit more than $500,000.
So, this is something that’s really important for us to understand, that in the long term, we are losers if we choose the $45. Even though it feels like we are winning in the moment, actually, we are losing out. We are losing out because we are not seeing the consequences of our choices, and that’s a cognitive bias called loss aversion.
Now, if you’ve been following “The Wise Decision Maker Show” for a while, you know about cognitive biases. These are dangerous judgment errors that cause us to make choices that are really bad for us, that harm us in the long run, like the choice to take the $45 over the $50, over the equivalent of $50 dollars in cash by taking the coin flip.
So, the right choice is taking the coin flip, and the broader principle here, how you address this sort of problem, is to make a policy for yourself of choosing the more rewarding course over the long term even if it feels more risky in the moment. So, you individually might lose out on 500,000 dollars over your lifetime if you don’t make this choice.
Now, think about it from a company perspective. Regardless of what choice you made given that 80% of the people choose the $45, you are likely at a company that is a little bit more conservative than it should be, based on how our brains work. So, by making a change in the company policy, in your team’s policy, in how you approach risk and rewards, you can gain an immediate benefit of 10% or avoid losing.
Now think about a company, let’s say, that has $50 million in annual revenue and, of that, 7.5 million is profit. That’s the ideal scenario if you maximize, if you take the right course of actions, take the right risks. But if the employees in your company, the staff, are taking the safer choice that’s less risky but less rewarding over the long run, you’re losing at 10% of your revenue, so 10% of 50 million is 5 million. And that means that your profit has now just gone from 7.5 million to 2.5 million. That’s much worse. That’s two-thirds of your profit wiped out right there. And again, it’s not a hard fix but it‘s something that we have to approach deliberately. This is one of those examples where going with our gut reactions, with our intuitions, really causes us to be losers.
What we need to do instead, to prevent our intuition from leading us astray, is adopt a policy of letting the data lead you on each choice and perceiving each choice as part of a broader pattern. Regardless of how you might feel safer in the moment taking the $45, it needs to be seen by you as part of a broader pattern, and people in your company, your team, you need to see it, and they need to see it, as part of a broader pattern.
Each decision needs to be seen from a long-term perspective. “What would happen if you make this decision each time you face this sort of scenario?” That is the way that you need to approach all of your decision making because that is the equivalent, that is what you are actually doing – your gut intuitions are not allowing you to see this as part of a broader pattern. We see each decision as a one-off whereas it is really part of a broader pattern.
So, you need to establish a policy for yourself individually, and to the extent that you have influence in the company as a whole, to look over the long-term for each decision as part of a series of patterns and make sure to make a decision that, even though it might feel and be less safe in the moment, has much higher long-term rewards. That’s the right choice to make If you don’t want to be a loser. So, you want to run the numbers, account for the role of uncertainty and risks, and take the course likely to lead to the biggest profit.
Treating each choice as part of a broader pattern might feel uncomfortable, it might feel intuitively unsafe, it might feel risky, but it’s actually the most risky and unsafe thing you can do to be a loser, to take the $45. That’s much more risky, much worse for you in the long term. So, the course that feels the most safe is going to be the course of avoiding losses, is actually much more dangerous for your bottom-line, whether as an individual or a company.
For more information on this, check out the blog on this topic, which is linked in the show notes. There are a variety of other blogs linked there, too. What do you think of this? Please leave your comments. I’d love to hear what you think about it. Please click Like if you liked this show. Please share it with your friends so that they might avoid being losers as well.
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For more in-depth information about this topic and many more about wise decision making and the most profitable decision making, make sure to get my book, “Never Go With Your Gut: How Pioneering Leaders Make The Best Decisions And Avoid Business Disasters”. Hope to see you in the next episode of “The Wise Decision Maker Show”, and as always, I am wishing you the wisest and most profitable decisions.
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Bio: An internationally-recognized thought leader known as the Disaster Avoidance Expert, Dr. Gleb Tsipursky is on a mission to protect leaders from dangerous judgment errors known as cognitive biases by developing the most effective decision-making strategies. A best-selling author, he is best known for Never Go With Your Gut: How Pioneering Leaders Make the Best Decisions and Avoid Business Disasters (Career Press, 2019), The Blindspots Between Us: How to Overcome Unconscious Cognitive Bias and Build Better Relationships (New Harbinger, 2020), and Resilience: Adapt and Plan for the New Abnormal of the COVID-19 Coronavirus Pandemic (Changemakers Books, 2020). He published over 550 articles and gave more than 450 interviews to prominent venues such as Inc. Magazine, Entrepreneur, CBS News, Time, Business Insider, Government Executive, The Chronicle of Philanthropy, Fast Company, and elsewhere. His expertise comes from over 20 years of consulting, coaching, and speaking and training as the CEO of Disaster Avoidance Experts. It also stems from over 15 years in academia as a behavioral economist and cognitive neuroscientist. Contact him at Gleb[at]DisasterAvoidanceExperts[dot]com, Twitter @gleb_tsipursky, Instagram @dr_gleb_tsipursky, LinkedIn, and register for his free Wise Decision Maker Course.
