Why the Lie 'You don't lose money until you sell' is a Hoax

By Bill Jackson April 17, 2024 5 mins read 229 Views

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By Dr. Jim Dahle, WCI Founder

One of the silliest myths out there in the personal finance and investing world is the phrase, “You don't lose money until you sell.” The problem with the phrase? It's totally false.

Why the Lie 'You don't lose money until you sell' is a Hoax

Why People Say It

Why do people say this? It's for two reasons. First, it helps people feel better about the fact that they lost money. It's just a nice thing to say. Kind of like, “Yeah, my 401(k) went down in value, too. We'll both be working here until we die!”

The second reason is that it might help improve an investor's ability to stay the course. It's a psychological trick. “Don't panic sell; you didn't really lose money.” If it keeps someone from abandoning a well-thought-out, long-term plan, great, keep saying it. But don't pretend it's actually accurate.

You Really Did Lose Money

Let's sit back and think about this. Let's say you own $100,000 in a stock index fund. A bear market happens, and the value drops to $78,000. How much money have you lost? You've lost $22,000. There is no other accurate way to look at it, I'm sorry—at least as long as you ignore taxes and inflation/deflation. If you had sold before the bear market, you would have had $100,000 in cash. If you sell now, you will have $22,000 less, i.e. $78,000. You lost money.

More information here:

Should You ‘Take Money Off the Table?'

You Might Not Care That You Lost Money

However, the fact that you lost money may not matter much to you. I lose money all the time. There are white coat investors who lost six, seven, and perhaps even eight figures in the 2022 bear market. If they have a solid long-term investment plan, they probably don't care much. Why not? It's because they don't plan to spend that money for 20, 30, or even more years. They expected the investment to be quite volatile over those decades, but they only really care about the price difference between when they bought and when they will sell (along with any income paid and what it was reinvested at).

Selling Prevents Further Loss (or Gain)

There are a couple of things that selling does do, however. The first is that it prevents further loss or gain. Once you sell, you will miss out on any future appreciation and income from the investment. Of course, you also avoid future losses. You're out of the game. If it's a good investment (and you should only buy good investments) and you don't need the money, that's usually a bad thing. Note that a good investment is NOT just an investment that makes money or that only goes up. You must also consider risk. Investing is far more about risk control than chasing returns.

More information here:

An Appropriate Amount of Investing Risk

The Perspectives of an Older Investor vs. a Younger Investor

Selling Induces Tax Consequences

The other thing selling does is induce some tax consequences. These consequences might lower your tax bill (like tax-loss harvesting) or increase it (like realizing a capital gain). But realizing those consequences has nothing to do with whether you lost money. That just affects which consequences are realized.

3 Problems with “You Don't Lose Money Until You Sell”

Why do I care if people say this? While it does have the potential to encourage staying the course with a solid financial plan, it also has the potential to encourage bad behavior in three different ways.

#1 Causes Inappropriate Anchoring

losing money selling investments

People naturally “anchor” to the highest value their investment ever reaches. If their Bitcoin hits 70,000, they think it's worth $70,000, even if they paid $33,000 for it and the market is telling them it is worth $19,000. Telling them they really aren't making or losing money as the value of their investment fluctuates causes them to anchor even more. This can cause them to think they are richer than they actually are and to make bad spending and career decisions because of it. If you don't really lose until you sell, you don't really make money until you sell, either, and you should be anchoring to the purchase price, not the highest price it ever hit.

But our brains don't do that. And there are no benefits to anchoring anyway. It's just a behavioral finance mistake.

#2 Keeps People from Selling a Bad Investment

Perhaps the biggest problem is when this phrase is used, and it isn't referring to a good investment in a well-thought-out investment plan. Let's say someone bought Tesla stock and believes that they didn't lose money until they sell.

This is what Tesla's stock looked like in early 2024.

tesla stock

Let's say they bought it in November 2021 at $400 when it was near its peak. Since then, it's dropped 59%.

As an individual stock, it's not a good investment because it introduces uncompensated risk. (Note that this has nothing to do with whether Tesla is a great company or whether it might even have great future returns.) It hurts to admit you lost money, and some people, believing that you don't really lose money until you sell, would hold on to this stock until it got back to $400 before selling. However, it might be just as likely to go to $0 as $400. Their false belief led them to avoid selling a bad investment, and it resulted in further losses.

#3 Keeps People from Tax-Loss Harvesting

In a taxable account, there is little reason to ever hold on to even a good investment that is underwater. You should generally tax-loss harvest those investments. This allows you to maintain essentially the same portfolio, but to acquire a tax loss that will reduce your tax bill in the short and long term. But if you believe you haven't lost money until you sell, you are less likely to engage in beneficial tax-loss harvesting.

More information here:

Is Tax-Loss Harvesting Worth It?

In short, when people say “You don't lose money until you sell,” what they're really doing is revealing their own lack of investing acumen. You don't have to argue with them and hurt your relationship, but you could help them by sending them a link to this article. Let me be the bad guy.

What do you think? Do you lose money if you don't sell? Why or why not? Comment below!

The post Why ‘You Don’t Lose Money Until You Sell’ Is Bunk appeared first on The White Coat Investor - Investing & Personal Finance for Doctors.

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By: The White Coat Investor
Title: Why ‘You Don’t Lose Money Until You Sell’ Is Bunk
Sourced From: www.whitecoatinvestor.com/why-you-dont-lose-money-until-you-sell-is-bunk/
Published Date: Wed, 17 Apr 2024 06:30:58 +0000

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